Are your clients preparing for retirement? Here’s what they should watch out for
An ounce of prevention is worth a pound of cure. In this case, preparing your clients for common sticking points as the get ready to retire can save both stress and money.
Decades spent in accumulation mode can make even the most financially savvy retirees ill-equipped to enter this new phase of life. Christine Benz, Morningstar’s Director of Personal Finance, has seen it happen. “Even retirees who are seasoned investors will tell you that transitioning from accumulating to spending from their portfolios is a challenge,” she says. Not to mention the obvious behavioural challenges that come with a dramatic change: “There are also psychological hurdles to jump over: After years of saving, transitioning into drawdown mode can feel a little bit scary.”
So how do you, the adviser, ensure your clients are in a good position to forge ahead in their retired life? Here are four key points to check off with your client.
We’re living longer
As time ticks on, life expectancies are growing longer. According to Philip Petursson, Chief Investment Strategist and Head of Capital Markets research at Manulife Investment Management, research by the World Economic Forum has found a person born in 1947 during the post-war baby boomer generation would have an average life expectancy of 85 years. If you were born 30 years later, that expectancy jumps almost a decade – to 94 years.
Longevity risk is arguably the dominant risk for today’s retirees. David Blanchett, Morningstar Investment Management’s Head of Retirement Research, points out in his report ‘The Retirement Mirage’:
“Choosing when to retire is one of the single most important financial decisions we make in our lives. Knowing when we plan to retire helps determine how much money we need to save and our standard of living in the meantime.”
“Unfortunately, our retirement plans are often wrong. People retire earlier than expected for a variety of reasons—including health issues and job changes—but the impact can be severe.”
This is exacerbated if your client retires earlier, lives longer, and increasingly, was born later. Petursson notes that someone born in 1947 would need roughly 50 per cent more capital than a person born in the previous generation, and someone born in 1977, would require an extra 30%.
With the longevity risk comes a shortfall risk: the possibility of outliving one’s savings. In fact, to cover for the longevity and shortfall risks, and considering that 94 years is an average life expectancy, a retirement plan should be developed with the expectation of the client living to 100. “That’s what I calculate for,” says Michelle Munro, tax and retirement expert at Fidelity Investments.
A recent survey of 1,929 respondents by Fidelity (Retirement 20/20) shows that only 17 per cent plan that far out. The largest cohort (53 per cent) plans between 85 and 95 years of age, and 28 per cent plans between 70 and 80 years of age.
“Our findings suggest that given this uncertainty around retirement age, some investors may need double their current savings to achieve their retirement targets. A person’s retirement age is simply too unpredictable, and we must plan accordingly to help avoid negative surprises,” Blanchett says.
The health curveball
The other major blind spot of retirees is health care and assisted-living costs.
“You often read about all the money you’ll save when you’re no longer working–on dry-cleaning, commuting, lunches out, and not having to save so much for retirement anymore, says Benz.
“Given that cavalcade of savings, it’s not surprising that so many retirees fall back on the conventional wisdom that they’ll only need to replace 80 per cent of their income during their working years when they actually retire.
“In reality, that 80 per cent rule is at best a rule of thumb; some retirees actually spend more than they did while they were working, while others spend much less. (Healthcare costs are one of the biggest wild cards).”
One area where expenses can explode: intensive care for the last period of one’s life, which could range from a few months, to a few years. “That is a huge expenditure,” highlights Munro, adding that the last third part of one’s life will probably not be a beach party.”
From 1994 to 2015, life expectancy at birth of males rose from 75 to 80 years, indicates a 2018 StatCan report, but health-adjusted life expectancy (HALE) went from 65 to 69 years. For women, life expectancy at birth increased from 81 to 84, years, and HALE, from 68 to 70.5 years. Men have to plan with the potential of about 11 years of health complaints; women, with 12 years.
Among the six health attributes of mobility, pain, sensory, dexterity, emotion and cognition, mobility stands out as the more important source of diminished health for males, while for females, it is mobility and pain.
Asset allocation ‘rules’
Many people talk about a simple rule of thumb: 100 minus Age = Equity. Put another way, if you’re clients are 70, 70 per cent of their portfolio should be in bonds.
But that is not practical anymore. “Historically low interest rates cause revenue on ‘safe’ investment grade bonds to be insufficient to generate revenue for many retirees,” says Petursson.
“Today, our capital in retirement still needs to generate a return, yet it’s harder and harder to generate a return with interest rates. The challenge for retirees is to find asset categories that will still generate return while not inordinately increasing risk.”
To mitigate that risk, it appears that coming retirees plan to continue working beyond retirement. Blanchett calls delaying retirement a ‘silver bullet’. “You’ve got one more year to save, one more year for your assets to grow, one less year to plan for in retirement. So, it’s really, really good,” he says.
The planning blind spot
The Fidelity survey clearly points to a potential area of hardship: neglecting to devise a retirement plan. Asked about their level of financial preparedness for retirement, 94 per cent of retirees who have a plan claim that they feel prepared, but only 72 per cent of those without a plan claim as much. Among pre-retirees, the difference is sharper: 78 per cent of those with a plan say that they feel prepared, but only 44 per cent without a plan say so.
Munro insists that such planning should preferably be carried out with a professional – that’s where you come in. But your clients shouldn’t limit their plans to financials only. Key areas of retirement to consider are one’s social and emotional health. It’s now an established fact that people who have strong networks of relatives and friends age better. Let’s drink to that! But not too much…
For more information about our retirement tools and portfolios, and how we can help you support your clients as they transition to retirement, contact your Adviser Solutions Manager.
This article has been re-written for an adviser audience. You can read the original, by Yan Barcelo, here.
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