Another option for keeping up with inflation in retirement is buying inflation-linked annuities or assets such as “linkers”, which ensure both the annual interest payments and final capital repayment rise in line with inflation.
When thinking about whether an individual needs to prepare to increase retirement income year on year, it is worth considering the Institute of Fiscal Studies’ research, which shows that pensioner expenditure increases faster than inflation, at close to the consumer price index plus 1 per cent until age 80, and then continues to increase from then on, but at a slightly slower rate of around 1 per cent a year until age 88.
Access to liquidity
Do they have access to liquidity in their other savings? The essence of retirement is that it is a period of running down savings. That means selling them, which means finding a willing buyer. Markets have shown recently that we cannot simply label assets as “liquid” or “illiquid”. While we are familiar with the idea that some assets such as property are illiquid and take time to sell, quoted assets may also suffer from a degree of illiquidity.
For example, just over a year ago, at the height of the liability-driven investment crisis, it was almost impossible to find a buyer for UK gilts and in today’s market, investment trust managers such as Simon Gergel at Merchants are finding there are virtually no buyers for UK mid-cap shares outside the FTSE 100.
In times when prices are severely depressed by a buyer/seller imbalance, it usually makes sense to hold an asset for however long it takes for buyers to return to the market. But for a pensioner client this will require there to be other liquid and more immediately sellable assets within the overall portfolio in order to provide the cash required for retirement income.
Following this discussion with a client to determine what they really want and expect of their retirement income, the adviser can begin to select relevant retirement income products and underlying investments designed to meet their needs along the retirement journey.
The choice of the right product becomes much easier if the above factors have been considered. And if a compromise, or “a bit of both” option, is needed that too can be accommodated by blending, for example — holding some income drawdown and buying some guaranteed income from an annuity straightaway.
Alternatively, the individual could be encouraged to start retirement in drawdown only and, at an optimum age for buying an annuity — guided by the financial adviser, actuarial calculations and stochastic modelling — everything left could be switched into an annuity.
