Retire at 55...am I on course ?

jamesd

Linton, 12% is average UK stock market return. 8% would be a blend of that and lower volatility investments. Both before inflation.

If you prefer a different assumption, the final report of the Pensions Commission noted that the average return on equities has been 5.5% after inflation (page 196). You may also find the following page with histograms showing frequency with which each of many returns has been achieved of interest, in part because for a 20 year investment period the past chance of achieving less than 2% return after inflation has been 15%, while the chance of not achieving 4% has been 30%. Which is in part why a mixture of equities and other investments is useful, and why sector allocation with annual rebalancing is effective at increasing overall returns.

Since a pension doesn't need to run forever a slow decline in capital value is fine, provided it's sufficient to still meet the income target for many decades. A minimum of 40 years would be prudent for someone retiring at 55 today. That decline in capital value boosts the return available above that from only the raw investments and starting with 346,000 you can sustain 14,000 after inflation for 60 years (to age 115) with 3.73% investment return after inflation. It'd take 4.22% to do it without using capital .

In this case there isn't really a requirement for 14,000 a year in real terms for 60 years. It's actually 14,000 for 10 years, then 14,000 less the state pensions, so I'll assume 14k for ten years then 8k for the remaining 50 years. The investment return needed to achieve this is 1.9% after inflation. That's below the yield the Pensions Commission assumed from inflation-linked government bonds, so it appears to be a prudently safe target. If there's a desire to preserve capital the investment return after inflation to have 348k at age 115 is 2.93% (though that has the capital value growing after age 65 because income is less than investment returns).

If you'd like to be extremely pessimistic, that 14,000 with investments for ten years then topped up by state pension can be sustained to age 90 even with 0% investment growth after inflation.

For the reasons above, the target income appears to be very readily achievable today using any reasonably sensible mixture of investments and life expectancy.

jamesd

Linton wrote: »

As a start to planning you could take the pension estimates available on the FSA website. For your £236K you get get a pre-tax fixed (no increase with inflation) income at 55 of about £14K assuming your Mrs gets 67% on your demise. Assuming this is your only income, tax could reduce this to say £12.5K.

There's 346k available here, only 236k of which is in pensions and I assume that 25% of that can be taken as a tax free lump sum. That means that 169k is 100% inheritable for income production for the surviving spouse and child, about 49% of the total.

It doesn't appear sensible to use 100% for annuity purchase with 67% spousal benefit when half of it is 100% available if an annuity isn't purchased with it.

It's likely that the work pensions come with dependent benefit and that may cover both the spouse and child, depending on the scheme rules and situation of the child. That's probably going to be ample provision to top up the 50% that's 100% available.

It's possible that if an eldest daughter currently requires a carer that daughter has a condition which will require a carer for life. In such a situation purchasing an annuity with only spousal benefit would be extremely unwise, since it would deprive the daughter of income on the second death. Better to keep as much as possible with the option of being inheritable into a trust for the care of the daughter. At least until we know more about the needs of the daughter.

It may also be of value to seek financial advice about whether it's best to set up such a trust arrangement now, at retirement or at some other time well before the first death. That may allow many of the related costs to be paid with more favourable tax treatment even while both parents are alive.

Linton

I dont want to start up a sub thread here, but some response to jamesd comments.

Looking up your reference I see that there is an overall average for equities as you say BUT this covers a very wide variation. For example over the past 10 years the FTSE has barely changed and so the overall return including dividends about matches inflation, which gives a real return of approximately zero. Especially bearing in mind the need to continually take income even at time of poor fund performance I would not plan my retirement on the basis of 5% real return - if it doesnt work its no satisfaction to know that it should have worked on average.

My example of taking a full fixed annuity now was just to get an income based on what could actually be done now, rather than to use overall long term average numbers. Its unlikely to be a sensible way to actually manage retirement.

From your detailed comments and the questions people have raised it would appear that blythmags really needs to take professional advice on how best to arrange his affairs rather than do anything drastic on the basis of a forum discussion.

dunstonh

For example over the past 10 years the FTSE has barely changed and so the overall return including dividends about matches inflation, which gives a real return of approximately zero.

The FTSE100 has been the worst western index to track for nearly 15 years. Only a fool puts all their money in that one index.

Especially bearing in mind the need to continually take income even at time of poor fund performance I would not plan my retirement on the basis of 5% real return - if it doesnt work its no satisfaction to know that it should have worked on average.

Working on a lower figure and getting higher is always more favourable than the other way round. I would never plan on 10% p.a. 7% is more reasonable. That said, since 1994 I have averaged over 10% despite the usual drops. However, thats because of continuous investment which allows you to take advantage of short term drops.

jon3001

jamesd wrote: »

With 346,000 of total investable assets, ignoring your own home, you could expect 5-6% of that as income assuming you invest and achieve an average return of 8-12% to provide the income and cover inflation.

Higher returns implies greater risk and higher volatility. When you're withdrawing from the portfolio, volatility can be a killer. Monte Carlo simulations show that high return, high volatility portfolios have a greater chance of being depleted than lower volatility portfolios.

5% is on the upper end of a sustainable withdrawal rate. That might have come from a combination of portfolio income and capital appreciation. So during retirement I'd aim for a lower-volatility portfolio producing a 4-5% real return over inflation.

jamesd

jon3001, so the Pensions Commission pages with the histograms that I referenced say, in effect; it's why I referred to them.

Reduced volatility in retirement seems sensible.

jon3001

jamesd wrote: »

jon3001, so the Pensions Commission pages with the histograms that I referenced say, in effect; it's why I referred to them.

I think that's a bit of a leap. The extract appears to be a classic stastistical analysis of how holding volatile assets for longer rolling periods (20yrs vs 5yrs) reduces the standard deviation of returns.

That's fine for long-term investors looking for capital appreciation. However a retiree isn't simply going to hold their assets for 20yrs - they'll want to withdraw from them every year. Knowing they can reduce their portfolio's volatiltity by sitting tight won't do them any good.

jamesd wrote: »

Reduced volatility in retirement seems sensible.

Indeed. The extract really doesn't highlight the damage done as withdrawals are made from a portfolio during severe market downswings.

jamesd

There's no need for any damage to be done by withdrawing during severe or any other market downswings that only last a year or three. There should be enough in cash and lowish volatility investments (bonds, gilts, perhaps some structured products, perhaps some term annuity buys or some Zopa lending) to continue to provide the income without the need to touch the higher volatility portions while their values are reduced. And enough to be making gradual shifts of more money into the depressed ones while they are cheaper.

While showing the difference between five and twenty years it also shows histograms for ranges of results for each. That distribution in possible results is the interesting bit for this discussion of volatility and the chance of not meeting targets.

jon3001

jamesd wrote: »

There's no need for any damage to be done by withdrawing during severe or any other market downswings that only last a year or three. There should be enough in cash and lowish volatility investments (bonds, gilts, perhaps some structured products, perhaps some term annuity buys or some Zopa lending) to continue to provide the income without the need to touch the higher volatility portions while their values are reduced.

Yes - there should be some low volatility investments. The figures I read said about 7-10yrs worth to cope with downturns. If it were only 3yrs worth you could be tapping volatile assets while they're only just beginning to recover.

Target withdrawal rate @ 5%; Years allocated to lower-volatility investments: 7 => 5*7 = 35% or portfolio.

If 35% of the portfolio is generating 5% (bonds etc) then how much does the remaining 65% need to generate?

Target portfolio return: 8%, 65% has to generate: 9.6%
Target portfolio return: 12%, 65% has to generate: 15.8%

Target withdrawal rate @ 6%; Years allocated to lower-volatility investments: 7 => 6*7 = 42% or portfolio.

If 42% of the portfolio is generating 5% (bonds etc) then how much does the remaining 58% need to generate?

Target portfolio return: 8%, 58% has to generate: 10.2%
Target portfolio return: 12%, 58% has to generate: 17.1%

Generating double digits returns is demanding enough. Having to rely on generating 15-17+% requires extreme risk. There would have to be a heavy bias towards smaller companies and emerging markets - just like sort of assets that are likely to suffer 50%+ declines during severe downturns. Is your portfolio really going to survive if that happens and you have to keep withdrawing cash from it at inflation adjusted rates?

If you target 8% (or 5% + inflation @3%) and a 5% withdrawal rate then I think you're at about the limit of sustainable withdrawals.

Target withdrawal rate @ 5%; Years allocated to lower-volatility investments: 3 => 5*3 = 15% or portfolio.

If 15% of the portfolio is generating 5% (bonds etc) then how much does the remaining 85% need to generate?

Target portfolio return: 8%, 85% has to generate: 8.5%
Target portfolio return: 12%, 85% has to generate: 13%

Well - even the material you linked to suggests that to get 5.5% real return (in this instance we'll say 8.5% nominal) you'd have to be in equities. Even with a decent spread there you'd have to be prepared for a 30% decline when a downturn comes.

Let's consider the following scenario.

Guy is about to retire with £100K portfolio. Inflation is 3% and he wants to withdrawal £5K/yr inflation adjusted. His portfolio is 15% bonds (generating 5%) and 85% equities (generating -10%/yr) as we enter a downturn.

Year 1: Bonds appreciate to £15750. Equities depreciate to £76500. He withdraws £5000 (from bonds) leaving £10750. Portfolio stands at £87250.

Year 2: Bonds appreciate to £11287.50. Equities depreciate to £68850. He withdraws £5150 (from bonds) leaving £6137.50. Portfolio stands at £74987.50.

Year 3: Bonds apprecaite to £6444.38. Equities depreciate to £61965. He withdraws £5304.50 (from bonds) leaving £1139.88. Portfolio stands at £63104.88.

At year 4. He needs to withdraw £5463.12 which represents 8.8% of his remaining portfolio. That's a bad place to be. And now he has to eat into the very assets in which he needs a recovery. If that recovery doesn't come now then he's toast. If he gets a modest recovery and then another downturn he's toast.

The results I've read concerning Monte Carlo simulations suggest more conservative portfolios and withdrawal rates than you seem to be aiming for.

blythmags

EdInvestor wrote: »

What kind of pension is this - final salary or defined contribution?

Hi...

Defined contribution

Regards

John