It’s one of the most nerve-wracking times in a client’s life.
No, it’s not the fearful days as they watch a sharemarket plunge amid a panic selloff. Nor is it when they get that unsettling feeling from watching a sector they’re underweight in take off.
Instead it’s a person’s transition period from their determined, ambitious accumulation phase to their careful, systematic decumulation phase.
“There is something very humane about discussing how to manage somebody’s assets as they head into retirement,” says Robert DeChellis, consulting retirement specialist to Allianz Retire+ Powered by PIMCO.
“It’s a scary thing for retirees, and the biggest challenge for financial advisers is managing people’s fear of outliving their assets,” DeChellis says. “That longevity risk is real and difficult to manage, both emotionally and in terms of portfolio construction.”
The demographic shift playing out across the world’s developed economies has particular gravitas for pension and superannuation advice industries. As waves of baby boomers head into retirement, the size of the superannuation pool and the unique combination of assets pose an array of difficulties for financial advisers, who may not have had to manage this type of guidance before.
Experts point to three main items to consider when establishing a strategy for the decumulation phase:
- Longevity insurance so clients don’t outlive their savings
- Safety in case few opportunities arise to add to the pot, as bad investment outcomes can be particularly devastating
- Growth, because clients will want rich, fulfilling retirements and will need to see some return.
“Decumulation is a far more complicated maths problem than accumulation and advisers often underestimate that,” DeChellis warns. “A tremendous amount of the wealth they need to access is not held in liquid assets.”
Indeed, the range of options for building wealth form the basis of any solid diversification strategy, but unwinding them is notionally more difficult. Home equity and its sentimental value are often the first things financial planners must tackle. Home equity in the United States totals US$30 trillion ($41.6 trillion). In Australia, about $600 billion is wound up in the family home for pensioners. Allianz Retire+ has launched a business in Australia focused on retirees leveraging the global capabilities of the US-headquartered Allianz Life and global fixed income manager PIMCO. Downsizing or selling those assets comes with much more red tape than acquiring them probably did. Financial advisers need to handle the tax implications and interest payments, and balance those against their clients’ lifestyle needs.
Furthermore, and still more complicated, in the US, US$12 trillion ($16.7 trillion) is wrapped up in small-business equity and in Australia that figure is estimated to be in the billions.
“Lots of people see selling their business asset or their property asset as their retirement plan,” says David Stephen, managing director of Invest Blue. “But as a planner, you’ve got to ask them what is the plan to sell, who’s going to buy it and when. You can’t just sell off the verandah, for example, there’s a real liquidity risk you’ve got to consider.”
Discovering a way to sustainably realise that equity and leverage the advantages for those retirees, who have varying lifestyle expectations in an undulating market, is extremely complicated, and the vast majority of financial advisers are not necessarily prepared for it.
DeChellis urges an almost philosophical rethink for advisers, to brace themselves for the waves of clients who will near retirement over the next decade.
“Advisers need to completely change the conversations they’ve been having and recast their professions,” DeChellis says. “Instead of seeing advisers as a money manager focused on returns, they need to see themselves as a family’s CFO [chief financial officer] and broaden their value proposition beyond just managing money.”
This change in outlook allows advisers a more integral role in a family’s wealth, giving them oversight of the needs, wants and wishes of the entire group of people.
The industry-acknowledged ‘race to zero’ – most of the things advisers used to be paid for now cost next to nothing – is arguably the tipping point to encourage this shift in mentality.
“Think about how you become indispensable to a family,” DeChellis says. “What part of the portfolio should have some minimum guarantee and what part can still grow?”
THE DECUMULATION BALANCE
People’s retirement can easily extend 30 years beyond their last pay cheque, meaning the retirement strategy is more crucial than ever.
“We use the SMILE acronym as a guide…sequencing risk, market risk, investment risk, liquidity risk and emotional risk,” Invest Blue’s Stephen says.
“A couple of negative years can be very hard to [overcome] and can leave your client in a lot of trouble,” Stephen says. “Those who have given themselves time to prepare, and understand that portfolio construction in the decumulation phase is vastly different to the accumulation phase, will be able to navigate this time for their clients.”
Stephen points to a disappointing industry trend of often moving a retiring client from a 70/30 equities and fixed-income split to a 50/50 split.
“Applying that same portfolio construction mentality isn’t great,” he says. “You need to build a new portfolio using strategies for better protection.”
“It’s a hard thing to get your head around at first, because when you’ve got a long time horizon, the income growth mix doesn’t matter so much,” says Andrew Creaser, partner at FinSec Partners. “But when you’re preparing for retirement, you’ve really got to be prepared for the short term.”
Attitudes clients may have had during the accumulation phase can sometimes continue into retirement or they may undergo a sharp change.
The first five years of retirement, in particular, can be the most expensive, with clients acquiring that boat, caravan or holiday of which they’ve always dreamed.
“Certainly, for some, the first 12 months of retirement feel like a holiday,” Creaser says. “And to make sure they can enjoy that time, you’ve got to find ways to shore up their assets.”
Creaser generally holds 12 months of pension payments in cash and then another two years in term deposits or bond funds.
“That way, if there’s a recession or a serious downturn, they are protected and anything that’s allocated towards growth assets has time to recover,” he explains.
Regardless of which strategies advisers choose for their clients, experts agree the emotional component of the decumulation phase is the most delicate – and ultimately most important – part of managing clients’ transition.
Many families are still committed to providing capital to their children who are hoping to enter the property market. Making sure that these kinds of gifts can be afforded adds another layer of complexity onto financial advisers.
“There are so many things that life throws at people,” Creaser says. “Divorces, illness, a savage change in the economic picture – our job is to help them be prepared.
“Long-term risks of no action aren’t immediately visible to people and having to deal with them can cause short-term pain, but the outcome for the family can make a world of difference.”