SIPP: equities v cash/bond split

bostonerimus

Linton wrote: »

Rather than thinking in terms of bonds versus equities I set my asset allocations based on drawdown requirements over time.

For example 3-5 years in cash, perhaps another 5 years in bonds and other wealth preserving investments and the rest in equities. So ones allocation will change as income requirements change over time. For example before and after state and DB pensions become payable and as the value of any fixed rate income reduces because of inflation.

Simply choosing a % equity level seems arbitrary and difficult to justify. Basing it on a rational analysis should give one more confidence that it is appropriate.

This is a great point. Before you can decide on an asset allocation and the amount of risk you need/are willing to take, you need to know the amount of drawdown that you might need. So do a budget. That might lead you to an annuity, a savings bond ladder or a 60/40 asset allocation.

JoeEngland

Alexland wrote: »

So does DW earn enough that you wouldn't need to start drawing on this allocation even if you are unable to find PT work? If not then drawing down on an 80/20 pot might put you at serious risk of depleting the money too quickly in adverse market conditions.

Alex

I think we'd still need to drawdown something even with DW working FT if I have no work, because until we both give up FT and move house we'll continue running two cars. Sounds like I need to have a better balanced mix of equities to cash of around 60/40, or maybe 65/35. Presumably I can change the mix over time within a SIPP?

Albermarle

In most Sipp's and personal/workplace pensions you can change between funds for no charge . Normally there would be various choices of equity/bond splits .
You can also have funds that automatically rebalance to safer funds as you get near to your designated retirement date, although there a couple of issues with these:
1) They are mainly aimed at people who are going to buy an annuity , as they move almost 100% into safe investments/cash as you get close to the retirement date. If you plan to go into drawdown then this would not be a good idea as you need ongoing growth of the fund after you retire:
2) Charges may be a bit higher than more simple funds.

bostonerimus

JoeEngland wrote: »

I think we'd still need to drawdown something even with DW working FT if I have no work, because until we both give up FT and move house we'll continue running two cars. Sounds like I need to have a better balanced mix of equities to cash of around 60/40, or maybe 65/35. Presumably I can change the mix over time within a SIPP?

A 60/40 asset allocation has been shown in US based studies to be a good mix between risk and return for a 30 year index linked income drawdown, but have you stress tested this allocation for your personal worst case circumstances? Of course to do that you need to know how much you plan to withdraw and also have an idea about your longevity. What happens if you were to lose 50% of your pension pot just before, or very early, in retirement. What happens if inflation stays high for a decade? What is your cash buffer and short tern bond component that will get you through down turns, or can you survive on state pension, work place DB plans, annuities etc?

jamesd

JoeEngland wrote: »

What split between equities and cash/bonds would you recommend? I was thinking about 80/20 initially and move to 60/40 or so as I get to my 60s... Additionally I have cash savings and a unit trust ISA, and we'll get more cash when we eventually move house to somewhere cheaper.

First, the savings and unit rusts should be combined with the money in the pension when working out the allocations.

Next, you appear to be planning to use the old fashioned and inefficient decreasing equity approach when a rising equity glidepath is known to produce better results.

Those assume that constant inflation-adjusted income, the 4% rule, will be used. They are thoroughly trounced by Guyton-Klinger if some income variation is acceptable, normally providing a higher income throughout retirement.

To compare, Guyton-Klinger at 60:40 initially for the UK starts at 5.5% and reduces to 5% if 1.5% in charges are allowed for, at 90% success rate.

The 4% rule starts at US 4%, reduces by 0.3% to allow for UK investments and the same 0.5% for 1.5% in charges taking it to 3.2%. But this is 100% success rate, not 90% which would be a bit higher.

So 5/3.2 * 100 -1 = 56.25% higher starting income with G-K and lots of room for its skipping of inflation increases or cuts before it gets as low as the 4% rule. It's simply more efficient, not leaving you with more nominal money than you started with 96% of the time on your deathbed as the 4% rule does.

I didn't adjust the 4% rule for rising equity glidepath though, so you can do a bit better.

But either way you can pay attention to Guyton's work and vary the equity percentage based on market conditions. Which means lower equities at the moment, still.

So, pick a core equity:bond split based on your basic volatility preference then use G-K with Guyton's varying equity split.

Or if you don't like G-K pick your core split and use Guyton's varying.

If you don't like that. pick a core split and use a rising equity glidepath.

In theory higher core equity proportions produce better results than lower but as long as you don't go below 50% equities the cost isn't huge, which why I say pick based on volatility tolerance. Though if you use Guyton's approach that'd cut equities at riskier times and reduce volatility that way so you might bump up from 60:40 to 70:30 core if you thought that 60:40 fit your volatility tolerance.

It only takes a year or so in cash plus ongoing dividends and interest to protect around 5-10 years of spending from forced equity selling in a down market if you use the 4% rule with rebalancing and if you use G-K that takes the income from the most sensible part of the portfolio anyway. So just a year or less of extra cash should be fine.

You can also use cfiresim to plug in future state pension income to allow drawing at a higher rate now. You could also plan for the usual cut in spending a people get older to further shift spending to your younger years.

jamesd

There's usually a better way to derisk in the UK than increasing the bond cut:

1. If life expectancy is good, defer state pension claiming
2. if it in't then regular annuity buying may do well.

Eventually buying annuities will beat drawdown due to the longevity risk issue. But that might not happen until your 80s if life expectancy is high.

JoeEngland

bostonerimus wrote: »

A 60/40 asset allocation has been shown in US based studies to be a good mix between risk and return for a 30 year index linked income drawdown, but have you stress tested this allocation for your personal worst case circumstances? Of course to do that you need to know how much you plan to withdraw and also have an idea about your longevity. What happens if you were to lose 50% of your pension pot just before, or very early, in retirement. What happens if inflation stays high for a decade? What is your cash buffer and short tern bond component that will get you through down turns, or can you survive on state pension, work place DB plans, annuities etc?

If our pension funds crash by 50% and inflation is high then we'll be living on porridge in an unheated house for several years unless one of us has a job of some sort. Things get safer in my 60s as I get a small DB pension at 60 and SP at 67, whereas DW gets a small DB when I'm 69 and SP when I'm 71. Fortunately DW is more able to work FT for several years, and if necessary I can try to get PT work for longer than planned.

None of us knows about our longevity, but given the state of my physical health I hope I don't live into my 90s as I'd be very frail by then.

atush

JoeEngland wrote: »

I've got several DCs and personal pensions that I want to move into a SIPP which will allow drawdown. The amount is ~260k and I'm 52. What split between equities and cash/bonds would you recommend? I was thinking about 80/20 initially and move to 60/40 or so as I get to my 60s, but don't know if this is the best approach. Additionally I have cash savings and a unit trust ISA, and we'll get more cash when we eventually move house to somewhere cheaper.

TBH you are asking a regualted question. which we, as non regulated advisors/strangers cant answer. WE dont knwo your attitiude to risk, when you want to retire ect.

You need an IFA really.

kingsleypne

Linton wrote: »

Rather than thinking in terms of bonds versus equities I set my asset allocations based on drawdown requirements over time.

For example 3-5 years in cash, perhaps another 5 years in bonds and other wealth preserving investments and the rest in equities. So ones allocation will change as income requirements change over time. For example before and after state and DB pensions become payable and as the value of any fixed rate income reduces because of inflation.

Simply choosing a % equity level seems arbitrary and difficult to justify. Basing it on a rational analysis should give one more confidence that it is appropriate.

Linton: this is an interesting approach. I'm currently trying to work out how to allocate my assets with the aim of having enough buffer for the short-medium term whilst still investing for growth longer-term. Presumably the idea is in the "good" growth years to periodically (every 3,6 months or whatever) to adjust the allocations to cash, bonds and equities to keep the relative split as above but in the "bad" growth years to leave the equities invested and reduce the cash/bonds buffers until the equities recover and then reallocate?

Linton

kingsleypne wrote: »

.....Presumably the idea is in the "good" growth years to periodically (every 3,6 months or whatever) to adjust the allocations to cash, bonds and equities to keep the relative split as abovebut in the "bad" growth years to leave the equities invested and reduce the cash/bonds buffers until the equities recover and then reallocate?

3,6 months is too frequent, you dont want to be messing about in response to short term market noise. I rebalance at the end of every tax year.

Rebalancing is what you do - sell equities to increase cash/bonds or vice versa so that the %s remain constant. Also you may well need to rebalance between equities and between bonds.