Very basic stakeholder pension questions

redonion

I'm starting to invest in a Standard Life workplace pension scheme. I am in my mid thirties.

Obviously I have decisions about which funds to invest in, but I have some questions that are more basic than that. Can anyone help me address my profound ignorance?

1. What happens to the pension when you retire? Does somebody just tell them that you'd now like to be paid the income rather than reinvesting it? i.e. any dividends and fixed income from bonds simply now get paid to you? Or is there some other change that takes place at this time?

2. I'm asked to say on the application form the scheme retirement age. Since I have no hard expectation of when I will retire, I imagine I will write 65 in there. What will this determine, and what are the consequences if I later want to change it?

3. A number of posts I've read here suggest that income is a goal in a pension portfolio. Why is that? Surely I only want income from my investments when I retire, and not until that time? They go on to say that one reason to invest in bonds is to get higher income. What prevents you from switching to bonds (and shares that pay high dividends) the day before you retire?

4. I see that for example, the "Ultimate Buy and Hold" investment scheme recommends holding 40% bonds. It justifies that on two grounds: first, to achieve lower risk, and second, to get higher income. Over a 30 years, what reason is there to think that risk is lowered by holding bonds?

dunstonh

1. What happens to the pension when you retire? Does somebody just tell them that you'd now like to be paid the income rather than reinvesting it? i.e. any dividends and fixed income from bonds simply now get paid to you? Or is there some other change that takes place at this time?

You can exchange it for a guaranteed income for life after taking out 25% of the value tax free. Or you can remain invested and draw an income from the investments. This could result in a variable income but a potentially higher one. All decisions you worry about when you get there. Dont even give it a thought in your 30s as your options in 30 years time will be different to those available today.

2. I'm asked to say on the application form the scheme retirement age. Since I have no hard expectation of when I will retire, I imagine I will write 65 in there. What will this determine, and what are the consequences if I later want to change it?

Just put 75. That age is not important and is only used to allow the annual statement to include a projection of benefits to that age. You can take benefits between 55 and 75 irrespective of what you put on the application form.

3. A number of posts I've read here suggest that income is a goal in a pension portfolio. Why is that? Surely I only want income from my investments when I retire, and not until that time? They go on to say that one reason to invest in bonds is to get higher income. What prevents you from switching to bonds (and shares that pay high dividends) the day before you retire?

Dont go there unless you plan on reading up and learning about investing first. income is a goal in a pension portfolio that is required to provide an income. You are looking for growth though. That can involve reinvested income but we are then getting into the discussion of portfolio building and investment strategies and that is not something an inexperienced investor should get into and not something you can achieve in a stakeholder pension to any real effect anyway.

4. I see that for example, the "Ultimate Buy and Hold" investment scheme recommends holding 40% bonds. It justifies that on two grounds: first, to achieve lower risk, and second, to get higher income. Over a 30 years, what reason is there to think that risk is lowered by holding bonds?

What rubbish told you that? It is good to diversify but you have to consider your risk profile. Maybe 60% bond is better. Maybe 20% bond and 20% property. Again, this gets into portfolio building and investment strategies.

You have a workplace stakeholder pension which is a basic product offering basic investment options. It will come with portfolio funds available to suit different risk profiles. Dont both wasting your time trying to build "ultimate" portfolios in a stakeholder. Plus, until you get to over £10k it really makes very little difference what you do.

mania112

1. When you retire (currently this can be done from age 55) you have a few retirement options.

i) Income Drawdown
ii) Annuity
iii) Fixed Term Annuity

I'll leave it to you research those (its not important now) - but the point is the pension WILL change. You would almost certainly be moving the funds to another provider at this point, because staying with the same provider rarely provides the best income rates.

2. It doesn't matter. Simple as that. Just say 65, for arguments sake. I don't really understand why they ask that question - it can always be changed.

3. Right. Growth is key, not Income. Funds should be of the accumulation variety.

They go on to say that one reason to invest in bonds is to get higher income. What prevents you from switching to bonds (and shares that pay high dividends) the day before you retire?

Seems like someone is getting confused between Investments in a pension and 'pure' investments. Clearly you can't take income from a pension fund until 55, so any 'income' is simply added to the fund, just another way of saying growth.

As said, at retirement income is paid from 3 types of plan. This income is set by government rates. If you chose to continue with investments at that point (as per the features of Income Drawdown) even then the 'income' you talk about is paid back into the pension pot and not directly to you. So its largely irrelevant to talk about the income from bonds or the dividends from shares.

4. Bonds are lower risk than Equities (shares in companies) because they offer fixed and [hopefully] guaranteed returns. Corporate Bonds are loans to companies, GILTS are loans to the Government - both are fairly safe. Shares can fluctuate without control/speculation.

redonion

dunstonh wrote: »

Just put 75. That age is not important and is only used to allow the annual statement to include a projection of benefits to that age. You can take benefits between 55 and 75 irrespective of what you put on the application form.

Ah, I see, thanks! Out of curiosity, why do you suggest 75? To shock me into how little I'll get even then?

Dont go there unless you plan on reading up and learning about investing first. income is a goal in a pension portfolio that is required to provide an income. You are looking for growth though. That can involve reinvested income but we are then getting into the discussion of portfolio building and investment strategies and that is not something an inexperienced investor should get into and not something you can achieve in a stakeholder pension to any real effect anyway.

I failed to make myself clear, sorry. I am not asking whether I should take income from my pension before I retire: I will not. I'm asking why some people make a distinction between income and growth in pension investments, given that income and growth amount to the same thing if income is reinvested. That all changes the day you retire of course. So my question is: why would there be any question of income being relevant until then? Perhaps because you get a better rate of income return on retirement by buying bonds with a long "maturity"? Is that really a factor 30 years away from retirement, though?

What rubbish told you that? It is good to diversify but you have to consider your risk profile. Maybe 60% bond is better. Maybe 20% bond and 20% property. Again, this gets into portfolio building and investment strategies.

Well, I hope this doesn't sound prickly - I don't mean it that way - but I'm looking for explanation and understanding rather than authoritative statements, so I'm not looking to be "told" things by anyone that I'll accept without thought. So my question was genuinely and innocently meant to be taken literally: what reason is there to think that over a long period of time, bonds are in some sense less risky than shares? To my naive self, it seems that bonds are the worse bet over that sort of timespan, because dips in share prices tend to be swamped by growth over that length of time, whereas bonds seem guaranteed to grow more slowly than shares have historically done - again, over that long length of time.

You have a workplace stakeholder pension which is a basic product offering basic investment options. It will come with portfolio funds available to suit different risk profiles. Dont both wasting your time trying to build "ultimate" portfolios in a stakeholder. Plus, until you get to over £10k it really makes very little difference what you do.

I certainly don't see myself becoming any kind of investment expert! But I don't think that excuses me from trying to shed a bit of my ignorance...

redonion

mania112 wrote: »

4. Bonds are lower risk than Equities (shares in companies) because they offer fixed and [hopefully] guaranteed returns. Corporate Bonds are loans to companies, GILTS are loans to the Government - both are fairly safe. Shares can fluctuate without control/speculation.

Over 30 years, though, who believes that bonds or gilts will outperform equities?

Again, a genuine question -- I'm fully prepared to be shot down in flames, but I honestly hadn't realised that anybody held that belief.

dunstonh

Ah, I see, thanks! Out of curiosity, why do you suggest 75? To shock me into how little I'll get even then?

75 is the age you have to commence benefits if you have not already done so.

I failed to make myself clear, sorry. I am not asking whether I should take income from my pension before I retire: I will not. I'm asking why some people make a distinction between income and growth in pension investments, given that income and growth amount to the same thing if income is reinvested. That all changes the day you retire of course. So my question is: why would there be any question of income being relevant until then? Perhaps because you get a better rate of income return on retirement by buying bonds with a long "maturity"? Is that really a factor 30 years away from retirement, though?

Pensions in retirement are providing an income and it is important to have a good income from the investments to feed that income. Pensions prior to retirement are all about building up the lump sum. Income reinvested helps but growth is the focus. How, some people will invest in a high yield strategy. Others will use different strategies. There is no one way to invest. Various strategies have pros and cons. Typically though you would expect a pension portfolio in retirement to be different to the one you had getting you to retirement.

Well, I hope this doesn't sound prickly - I don't mean it that way - but I'm looking for explanation and understanding rather than authoritative statements, so I'm not looking to be "told" things by anyone that I'll accept without thought. So my question was genuinely and innocently meant to be taken literally: what reason is there to think that over a long period of time, bonds are in some sense less risky than shares? To my naive self, it seems that bonds are the worse bet over that sort of timespan, because dips in share prices tend to be swamped by growth over that length of time, whereas bonds seem guaranteed to grow more slowly than shares have historically done - again, over that long length of time.

Different asset classes will perform differently at different times. You would expect equities to outperform over the long term but there will be periods in the short term when they do not. On a diverse portfolio with rebalancing you can benefit from these short term periods. Rebalancing is key in any portfolio. Bonds also allow you to tune your investments to your risk profile.

I certainly don't see myself becoming any kind of investment expert! But I don't think that excuses me from trying to shed a bit of my ignorance...

understanding is important but jumping in at the deep end is what you need to be wary of.

Over 30 years, though, who believes that bonds or gilts will outperform equities?

You would not expect it but it is a possible scenario. However, no sensible investor would just buy and hold investments. They would rebalance and adjust allocations to suit the economic position. And, as mentioned, you use bonds to reduce the volatility of the overall portfolio to match your risk profile. Most people in the UK cannot stomach a 50% loss in 12 months.

redonion

dunstonh wrote: »

75 is the age you have to commence benefits if you have not already done so.

Thanks.

understanding is important but jumping in at the deep end is what you need to be wary of.

Understood.

You would not expect it but it is a possible scenario. However, no sensible investor would just buy and hold investments. They would rebalance and adjust allocations to suit the economic position. And, as mentioned, you use bonds to reduce the volatility of the overall portfolio to match your risk profile. Most people in the UK cannot stomach a 50% loss in 12 months.

Food for thought. My head tells me that this possibility doesn't mean that the risk is higher than bonds, but I'm grateful to be reminded of this real possibility so I can think about how I'd feel and behave at a time like that...

dunstonh

Food for thought. My head tells me that this possibility doesn't mean that the risk is higher than bonds, but I'm grateful to be reminded of this real possibility so I can think about how I'd feel and behave at a time like that...

Look at Japan. It is always a reminder of what could happen elsewhere. Indeed, Japan could be considered the future. It has problems today that many other countries are going to be suffering later (shortage of landspace, aging population etc Although it also has unique issues which mean they may not occur elsewhere).

Risk and potential are two different things. Can a low risk typical corporate bond fund lose 50% in 16 months. No. It may not go up 40% in 12 months like equities could but risk is focusing on the downside. Not the upside.