If you’re in your 50’s, you have probably thought that the closer you are to retirement the more you should be invested in low risk. This usually translates to you believing that you should be avoiding the volatility of growth assets such as companies.
The issue with this thought is that it fails to include the very real possibility that you may live for a long time and will need a larger balance to survive.
Risk doesn’t just disappear when you decide to put your money in non-volatile assets, it gets swapped out for the risk of you possibly running out of money in your retirement or downgrading your lifestyle.
Remember, when you retire you are no longer earning an income and the only way that you’ll be gaining any money is through the return generated by your retirement savings.
Let’s use a scenario.
If a couple had roughly $500,000 in retirement savings and maximised their concessional contributions each year for ten years while being invested in low risk cash investments (such as term deposits), they would retire with circa $1,000,000 in retirement savings. This amount would generate a return of around 1% ($10,000) and assuming you want to draw an income of $80,000 p.a., you’ll be on the back foot immediately by drawing more money than what your investment can generate.
Once you see this, you’re focus will shift from worrying about volatility to a worry about running out of money. You’ve essentially shifted the risk.
The alternative scenario.
If that same couple had instead maximised their concessional contributions each year for ten years while being invested in companies, generating a conservative return of 8%, they would get to circa $1,500,000 in retirement savings. By this point their retirement savings would generate a return of around $120,000 p.a., which is more than the $80,000 they wish to draw as income.
Still, people may find the alternative scenario to be risky.
A way to help handle this risk is to build contingencies into your plan for when a large market drop happens. We like our clients to have about 1-2 years’ worth of living expenses put aside for WHEN this occurs.
When you have the discussion about the risks involved in your investments, just be mindful about the trade-offs involved, such as your retirement lifestyle. It should never be a one-dimension discussion about volatility.
If you wish to discuss your options feel free to get in contact with our office at 07 4772 0938.
Dallas Davison, Michael Hogue and Ali Hogue.