If you are not already retired or approaching retirement, thoughts of life post-work are often relegated to the bucket of ‘things to worry about in the far-flung future’. But like most other important milestones in life, your retirement will benefit from diligent planning long before the moment arrives. A solid plan can be the difference between living a retired life on your terms or not.
The general premise of retirement planning is centred on consistently saving enough funds to last throughout your retirement. But while the economy and investment markets are often central to these conversations, these are largely factors beyond our control. Thus a successful retirement plan does not entirely depend on these factors but rather mitigating the risk and behavioural factors that are controllable.
First on the list of risks to consider is your portfolio’s asset allocation as well as that of your superannuation fund, particularly given that close to 90% of the variation in portfolio returns is determined by asset allocation. Do you know which investment option your super fund is invested in and what sits within that option? Each super fund has a different definition of a growth, balanced and conservative profile so it is important to ensure that it corresponds with your current risk profile. This is particularly important in the near future as super funds decide whether to make strategic asset allocation changes to improve their scores against the APRA MySuper benchmarks published on 1 July. While you are at it, check also to see how your super fund has done against the benchmark and consider if you’d be better off with another super fund that has demonstrated stronger performance over the long-term.
The next item should be mitigating sequencing risk. This is a risk that is particularly relevant in times of poor or muted market returns and impacts investors most on either side of retirement, when a portfolio is exposed to potential losses from market volatility and drawing down from the portfolio. One way of mitigating this is to ensure that a portfolio is adequately invested in defensive assets such as bonds to help cushion losses from potential equity market downturns, even in today’s pandemic-induced low-yield environment, when the risks of depending on a concentrated, high income portfolio have arguably never been greater. Another approach for mitigating sequencing risk would be to temporarily reduce your spending alongside your reduced portfolio balance. This might help ease financial stress and assist in navigating through the crisis. Once markets settle, then spending plans can be readjusted.
Which brings us to loss aversion. The principles of loss aversion could explain why some investors insist on an income-oriented strategy for their investment portfolios, seeking to only utilise the income generated through dividends and interest to meet their spending needs. For some, contemplating making withdrawals from the capital portion of the portfolio results in feelings of constant loss. But shifting your mindset towards viewing your withdrawals as regular pay checks to yourself instead of withdrawals from savings might help reduce those feelings of loss. Another way of addressing loss aversion could be to withdraw larger distributions less frequently.
And the final factor – emotional risk. If there is a lesson to be learnt from the last 18 months, it is that volatility is here to stay. While the term social distancing was only recently introduced to our everyday vocabulary, there is value in extending this new habit to your investment portfolio too.
The best course of action during periods of market volatility is to stay the course and keep emotions in check rather than give in to the noise over the short run. Staying focused on the long term rather than giving in to the emotional tug caused by market volatility, involves only revisiting your goals and the reasons for your specific asset allocation, not reacting to the daily headlines. This will set you in good financial stead for when it is time to retire.
And when that time does come, remember to tell yourself that it’s ok to draw on that same discipline to use your savings to live the life you planned for.
Robin Bowerman, Smart Investing