It's now been around three weeks since Australian retirees have been able to make a super contribution of up to $300,000 from the proceeds of their house - the question is, how should that money best be used?
As announced in the 2017-18 Budget, this new non-concessional (post-tax) contribution will let over-65s top up their super with a view to encouraging them to downsize into "housing that is more suitable to their needs, freeing up larger family homes."
While this is a positive step for many retiree downsizers, it also puts the spotlight back on how super balances can best be implemented to deliver sustainable retirement outcomes.
There's been substantial debate in the industry surrounding the two poles of risk in any retiree's portfolio: longevity risk (where a retiree could potentially run out of money during their lifetime given rising life expectancies) and sequencing risk (the more immediate threat of market movements reducing the overall portfolio balance). The latter risk carries more urgency for retirees and their clients, but the former still looms large.
There's no easy solution to this issue: following on from the Financial System Inquiry, the Government introduced provisions for super funds to offer Comprehensive Income Products for Retirement (CIPRs), now labelled MyRetirement products. These are designed to provide a combination of reliable income with longevity risk management that is "mass-customised" to the majority of a fund's members.
Taking the front foot on the issue, some super funds have introduced what’s known as a “lifecycle” investment option. These work by gradually rebalancing a member’s super balance as they age, gradually de-risking from a larger proportion of growth assets – think equities, alternatives, property – to defensive ones such as cash and bonds.
Lifecycle options are designed to address the basic principle that a super investor can afford fewer risks to their balance as they wind down from having a regular income and eventually rely entirely on their super (and perhaps the Age Pension).
As with any defensive portfolio, though, there will always be the “opportunity cost” of missing out on capital growth from riskier assets, especially given that retirees today are expected to live longer than previous generations. In fact, a 2016 report from Macquarie University by Stefan Trueck suggested that based on historical data, lifecycle strategies only offered "slightly better protection against adverse outcomes for superannuation investors" while "significantly limiting the upside potential."
Another widely-cited approach to the retirement income conundrum focuses on the idea of “income layering,” whereby multiple “buckets” of income provide a steady stream above one’s minimum income requirement over time. These buckets, according to Challenger research, will often feature a blend of life-time annuities, growth assets, top-up income, defensive assets and, ultimately, the pension.
As a FINSIA report co-authored by Challenger’s retirement income chair Jeremy Cooper notes, though, “such a bucket approach is only achievable when there are assets available after setting the required minimum income level.”
A way to mitigate these problems could be via using a deferred lifetime annuity (DLA), which a retiree can purchase so that it “kicks in” at a later date – say, 20 years down the track – at a point where existing sources of income have been exhausted.
The rising proportion of Australians entering retirement – often referred to colloquially as the “silver tsunami” – has driven further innovations in the relevant product space. One approach consists of a blended distribution model, which includes a steady income stream, capital growth and finally a “bonus” that comes from sticking with the model, whereby investors are returned a portion of the balance left behind when one investor leaves or passes away.
Another approach involves using a derivative overlay to hedge against potential market downturns, essentially as a form of “course correction” comparable to the technology used in Google Maps. This overlay can be turned off and on as appropriate and is designed to predict market movements using data and algorithms.
Ultimately, though, if the above ideas suggest anything, it’s that the final judge of which way to best manage retirement outcomes is you and your client. The reality is that every retiree will have different risk tolerances and retirement goals, and a “one-size-fits-all” approach will never deliver the perfect outcome.
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