Post-retirement investing in a challenging market
20 October 2015 - Coronation Insights
Coronation Fund Managers has cautioned investors seeking both immediate income and long-term capital growth, specifically those in retirement, to pay special heed as the investment environment grows cloudier.
According to Pieter Koekemoer, head of personal investments at Coronation, it's critical that retirees have a well-constructed portfolio with enough exposure to risk assets to achieve reasonable real growth over time, but not so much that a near-term market correction will impair their capital base.
"Between 2008 and 2011, we warned that retirement funding portfolios were too conservative and needed more exposure to growth assets. In recent years, however, investors have taken on much more risk," says Koekemoer.
Koekemoer expressed concern about the strong trend among post-retirement investors to invest in multi-asset funds with large equity allocations (the typical Regulation 28-compliant balanced fund). These high-equity funds are typically not specifically managed with post-retirement clients in mind, but rather for the build up to retirement.
“While traditional balanced funds have generated excess returns over the past six years in a relatively benign environment, we fear that some retired clients may now be too complacent about the actual risks in these funds. A market slump at the wrong time can have a negative, permanent impact on the retired investor’s standard of living." explains Koekemoer.
Key considerations for post-retirement investors
For investors who are retiring, or have retired recently, a more appropriate consideration is to invest in an income and growth fund (lower or moderate equity multi-asset fund) that explicitly aims to reduce downside risk (protect capital) in the shorter term, says Koekemoer.
He adds that if a client’s real retirement capital remains intact after the first ten years of retirement, it is very likely that their real living standards will be sustained for the rest of their life. Selecting a prudent initial drawdown rate (percentage of income you draw from your retirement capital annually) therefore becomes crucial. “Market valuations at the time of retirement should play a key role in deciding on such a drawdown rate,” says Koekemoer. Another good reference point is the age-appropriate annuity rate quoted by life companies on an escalating guaranteed annuity. For relatively healthy retirees in their early sixties, a prudent initial drawdown rate in the current environment is believed to be between 4% and 5%, compared with the average drawdown rate of 6.59%¹ in South African living annuities in 2014. This was virtually unchanged from 2013 (6.63%¹), unfortunately ending a welcome period of declining drawdown rates.
Coronation has cautioned for some time that an extended period of lower returns lies ahead. “Despite some recent declines, equity valuations in general remain full - with the exception of some parts of emerging markets - and interest rates are still at multi-decade lows, which may result in lower future investment returns,” explains Charles de Kock, co-manager of Coronation’s two income and growth funds, Capital Plus and Balanced Defensive². According to him it will be much more difficult to achieve large margins above inflation in this low growth, low interest rate world.
He adds that while Coronation continues to identify strong long-term investment opportunities, in a fund such as Capital Plus (which is ideal for investors in the first half of their retirement), they are as serious about capital protection as they are about beating inflation. “Put options and other forms of portfolio insurance therefore form a permanent feature in the fund in order to reduce the impact of possible market declines,” explains de Kock.
1 Source: Association for Saving and Investment SA (Asisa)
2 The Coronation Balanced Defensive Fund and Coronation Capital Plus Fund are Coronation’s flagship income and growth funds. Balanced Defensive has been a top-performing conservative fund in South Africa since its inception in February 2007 and over the past five years. It has not suffered capital losses over any 12-month period over its more than eight-year history. Capital Plus has a higher allocation to growth assets (60%), making it an ideal portfolio for investors in the first half of retirement. This fund has delivered solid inflation-beating returns over the long term, outperforming inflation by around 8% p.a. since its launch in July 2001. Capital Plus has produced positive returns over rolling 12-month periods more than 90% of the time.
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