Protecting Your Retirement Nest Egg

Investors who are in, or near, retirement are in a challenging position. They need their investments to provide them with steady cash flow to live on, but they also need their wealth to last for a potentially long life.

It’s easy to be optimistic when we experience a long-time bull market like we have recently.  Too many people have been overly eager to increase their equity exposure in order to not miss out on any gains.  But you can’t look at recent stock market performance and expect it to continue indefinitely.  The roller-coaster ride in the last couple of months has made some people nervous.

Retirees who are caught in a bear market don’t have the time to wait out temporary dips in stock prices, even if they have a greater risk tolerance. Being forced to sell investments that have plummeted to provide money to live on could have a devastating effect on the sustainability of a portfolio.

Some investment advisors are guiding their retired clients out of equities and into bonds in an effort to offer income and stability. But even though interest rates have increased slightly they are still at historical lows and traditional bond portfolios will have a difficult time providing an acceptable level of income while protecting purchasing power over the next 25 to 30 years.

Structure your portfolio for both short- and long-term needs

You want to meet your spending requirements for the first five years or so of your retirement, when you’re the most vulnerable to sudden drops in market value.

There are several ways to do this. You can get consistent cash flow through some combination of pension income, a ladder of GICs or bonds that mature each year, interest from fixed-income investments and reliable stock dividends.

This strategy gives you a longer time horizon for your equity investments, because you know you won’t have to sell any to meet your spending needs and they can continue to grow.

Stick with a balanced portfolio

Retirees and pre-retirees are wise to make more conservative assumptions about likely future rates of return.

Recent analysis suggests that a portfolio of about 50% stocks (mostly large cap equities) and 50% high quality government or corporate bonds has the best chance of achieving portfolio longevity – defined as the number of years a portfolio can sustain withdrawals of about 4-5% in real terms before all assets are exhausted.

The fixed income component should be in investment-grade bonds such as those issued by governments or companies with strong balance sheets, or GICs with terms of three to five years.  Preferred shares are another income option but choose carefully.

Select conservative stocks – mainly blue chip, dividend-paying companies with low debt that generate moderate, reliable and growing cash flows, rather than companies that may have higher yields but offer little potential for growth.

Or, instead of individual investments, choose ETFs that pay dividends.

Fear of outliving savings

Many boomers are afraid of outliving their money.

If you are really worried about outliving your savings, one of the best things you can do is delay starting your government pension plans.

You can reduce the stress of uncertainty with a slew of products available for income. Some can be quite complex and have their own pluses and minuses. Consider your needs carefully and do your research as these products have lots of different options and features.

  • Reverse mortgages
  • Immediate annuities – the monthly payout will be greater the longer you wait to purchase these.
  • Deferred income annuity – also known as longevity insurance. Instead of immediate income (like a regular annuity) the benefits don’t start until later, perhaps 10 to 20 years down the road. If bought at say age 65 in return for income that starts at 85 you can spend your assets over the first 20 years of retirement knowing you have guaranteed income thereafter. Because payments take place in the future you can buy a bigger benefit compared to a regular annuity. In this case, the younger you are when you make the purchase, the better the deal.
The bottom line

There is a great deal of uncertainty in retirement planning with so many unknowns, such as costs, length of retirement, and potential medical needs.

Volatility in the years just before and after retirement can be daunting, but you don’t have to make major changes to your portfolio.

You don’t need to switch everything to bonds, but neither should you take on more risk by increasing your equity position in an attempt to gain more income.

There are many ill-suited financial products targeted at retirees. The sales pitches are designed to tap into deep-seated fears about the affordability of retirement. Don’t fall for high-pressure tactics, and certainly don’t take action until you are satisfied you have all the information you need to see if there’s a sure benefit for you.

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3 Responses

  1. fbgcai says:

    Could you expand on deferred income annuities – I had not heard of these before?
    maybe another blog?
    Who sells these in Canada and what are the ins and outs eg. what happens if you die before the annuity starts? and what kind of payment can one expect?

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