Understand your retirement risks
30 April 2018 | Retirement and superannuation
Most of us would place the possibility of living longer than expected and outliving our retirement savings high on our list of risks facing retirees. This longevity risk is increasing as global life expectancies rise, with Australia ranking near the top among OECD countries.
The other side of longevity risk is mortality risk – the possibility of having a shorter-than-expected life – often leaving a surviving spouse or partner to manage financial and personal affairs.
Assessing your potential risks in retirement should be a significant part of your retirement planning; no matter whether your intended date for retiring is imminent or many years away.
Keep in mind that the possible risks facing retirees are quite wide, extending, of course, beyond longevity and mortality concerns.
A recently-published report, Vanguard's roadmap to financial security: A framework for decision-making in retirement, suggests a four-part plan for retirement planning covering retirement goals, risks, financial resources and creation of a retirement plan.
Smart Investing is looking at each of these four parts of retirement planning in a series of weekly blogs, examining this week why you should understand your retirement risks. (Blogs published earlier in the series are: How to plan for a better retirement and Determine your retirement goals.)
“Once investors have determined their goals, the next step is to understand and evaluate the potential risks they may face,” the authors of Vanguard's retirement roadmap report emphasise. “Weighing the possibility and potential impact of each risk will help retirees e stablish an effective plan to mitigate those risks and keep on track toward financial security.”
Retirement risks are generally grouped into market risk, health risk, longevity and mortality risk, event risk, and tax and policy risk.
The components of market risk for retirees include poor investment returns affecting retirement lifestyles, inflation eroding savings, interest rate movements adversely affecting savings, and overreaction to market volatility. As the Vanguard report comments: “Market swings can be psychologically difficult for investors in retirement. An investor's response to volatility can affect portfolio value over time.”
This is both the risk of ill health itself and the risk of being unable to afford adequate health and aged care. Preparing for the increasing risks of ill health and frailty as retirees age is a critical part of retirement planning.
Longevity and mortality risk
We face the risk of either outliving our retirement savings or dying prematurely, often leaving a surviving spouse or partner to manage financial and personal affairs.
This is the risk that large unexpected expenses – such as unavoidable home repairs and other family needs – may have a significant impact on a retiree's savings. Such costs can disrupt a carefully-constructed retirement plan.
Tax and policy risk
As revisions to Australia's superannuation system in recent years show, government policy changes can have a sizeable effect on retirees' retirement incomes, depending upon their circumstances. Policy changes, of course, may affect super savings, taxation of earnings, health and age care and Age pensions – the list goes on.
In handing tax and policy risk, retirees should stay focused on what they can control and appropriately diversify their portfolios to spread their risks and opportunities.
How ready are you to handle the array of retirement risks?
Next in this series of blogs on retirement planning: How to assess your retirement financial resources.
Written by Robin Bowerman, Head of Corporate Affairs at Vanguard.
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Robin Bowerman, Head of Corporate Affairs at Vanguard Australia, shares investment and personal finance insights gained from over two decades in the finance industry as writer, commentator and editor.