SWR Question

hyperhypo

Really interesting thread. Second gm0 citation of McClung...hard going but excellent... chapters 1-3 available for free download...3 includes a very helpful worked example for drawdown spending...draining equities into fixed income rule based after setting equity/bond ratio. My takeaway question question  is whether to retain mixed asset funds in drawdown... perhaps it's time to separate out into individual  equity ITs etc and separate bond/cash/gold funds ETFs going ahead.. 

Linton

I would argue for separate equity and non-equity funds in retirement.  Two reasons:
1) Stress reduction.  If you hold a 60/40  portfolio and the 60% equity drops 50% whereas your safe-ish non equity remains constant you see a drop in wealth of 30% which you fear could continue - sleepless nights.  Perhaps in the small hours you decide to cash in the lot. 

With separate funds you see your equity drop 50% but the non-equity remains constant.  And that should be enough to last you at least 10 years without touching the equity, more than enough time for circumstances to change.  The equity can look after itself.  Result: a good night's sleep and no foolish panic driven decisions.

2) Control: You can decide what %s and what investments meet your needs and attitudes. Both will change over time.  Also you can more naturally choose to include cash or other non-fund investment just as another part of your non-equity holdings.

Whether you should split further with multiple equity and multiple non-equity funds is a different discussion.

Terron

gm0 said:

ac198179

Hopefully that's cleared up your original query.  ;->

We don't know.  Whether the future resembles the past - but we don't have a better model that we could feasibly agree on
Backtesting is not proof of safety. But we have nothing meaningfully better to provide a guide to setting up WR for deaccumulation. (Not starting an argument about backtesting and MC sim - honest).

But the question is not whether the future will resemble the past, but whether it will be worse than the worst of the past. The future will almost certainly not resemble the past, but given the bad things that have happened there is a reasonably good chance that it won't be worse than the worst most of the the time. It indeed is the best we have, and yes is not proof, but it is not as bad as your words imply.

jamesd

gm0 wasn't being pessimistic but realistic and pragmatic. We do it because it's been well proved against really bad things like a world war, while knowing that there's that chance of something worse... but that events like death before the end of the planning horizon dominate the bad result scenarios, not the other unknowns.

Terron

jamesd said:

gm0 wasn't being pessimistic but realistic and pragmatic. We do it because it's been well proved against really bad things like a world war, while knowing that there's that chance of something worse... but that events like death before the end of the planning horizon dominate the bad result scenarios, not the other unknowns.

In the original work the world war was good for pensions as the US markets did well out of it. The worst events were the great depression and the oil crisis. For Britian the war was worse and that is the main reason the SWR rate from such calculations is lower for the UK. I think death was left out of it.

gm0

DC drawdown is well enough studied that it is possible to draw some tentative risk management conclusions. If you  look at the literature and avoid the snake oil salesfolk.  And then adjust your own plan to taste and circumstances with advisor help or not. Then it is what it is.

But as a policy - DC drawdown at a single start date (SORR not pooled with other cohorts in a scheme) and with longevity risk (not pooled with others for cross subsidy from early death to late - as with an annuity) is inherently a more fragile setup for the individual. Exposed to both outliving their pension pot and to whatever investment outcomes as may arise and their exact sequence whether it's an old favourite from backtesting (a valuation correction cycle over most of a decade early in deaccumulation) or something new and unexpected.

Yes - there are many advantages of individual DC drawdown principally around income flexibility and heritability.   But strategic weaknesses as a mass private pension policy.  And the complexity when measured against the level of financial education presently enjoyed in this country.  Oh dear.  (This doesn't mean that the decision to abandon capped drawdown was wrong or to solve the low gilt rates stopping "forced annuity purchase" was either).  But those tactical decisions being "least worst at the time" doesn't a strategy that works for all make.

It works for some people - but it doesn't work for everyone with small private pensions from employment.  Regulated advice as currently configured cannot really reach down economically to all pensions sizes.  Previous scandals inform us that light touch regulation is a no go (British Steel etc.). Vultures will gather and prey upon the less well informed or numerate.  Your typical pensions minister has barely got their brain around all the contradictions and obstacles to change as briefed by Sir Humphrey  then they are off to the next job or replaced by one from the other lot.  X-party political agreement is essential and elusive for long lived policy and incentives like this.   Debate about it (even from people who have done the job and should know better) is often simplistic and playing to the gallery (as with the recent spouse uprating mini-scandal on StatePension which is a great example of where repeated political small scale policy meddling and combinational complexity has overwhelmed administration).  Cockup not conspiracy.  And root cause is not junior civil servant operational failure or malfeance it's excessive complexity getting layered in again and again.  Add something new.  Don't tidy up.  Transitional reliefs for all voters who are awake and offended.

Although stillborn so far the Defined Ambition ideas in the pensions reform consultation based on international comparison is interesting. Indicative of some of the thinking in relevant policy circles about ways to recover some of the "old system" benefits - around security for the member (not running out - longevity risk), benefits linked to investment performance (but pooled - economies of scale and more controversially - across cohort start dates (temporally (With Profits redux for SORR)).  Winners win less. Losers lose less.  Solidarity across the group over a purely individual risk and return hitched to your retirement date.   Mild benefits for all from economies of scale. 

All this alongside a capped (to current day) obligation for sponsor to what was put in at the time (the key compelling feature of DC for the sponsor).  Nobody turns up 30 years later and says eek - longevity increased with wonderdrug X.  20bn please. And if they haven't already gone bust due to technology change they then do and it's PPF time. Tax payer cops the liability and members get a 10% haircut.  Take something like the ICI pension schemes (remember them - big refining and speciality chemicals, polymers and paints, agri-business, fibres, pharma) when we used to make such things in the UK before it became too expensive to do it here.  Think how many companies on they are now in terms of inheriting estimated but not certain historic liabilities to sponsor.  And then there is the likes of BT and BA who meddle in phones and planes around being a historic pension scheme operation and cannot be allowed to fail

If such a DA scheme was in place with trusted governance semi-detached from the government balance sheet - then it would have a number of very positive risk reduction features for the member.  Complexity abstracted away from the individual again. 
But political consensus is absent and the transition from here to there is next to impossible.

Even getting started with some armtwistable large key employers (who are one accounting scandal or technology generational change away from the PPF) to try it out has been too much of an ask at least so far.  Inevitably this sort of national scheme idea - leads to cohort cross subsidies, retained profits, actuarial death pooling.  Penalties for exit (cash transfer out) to make that unattractive to game.  The presumption of such a scheme is that "most" people are in it even if private pensions of some other types persist in parallel.   Netherlands is a quoted example (not of the exact idea but one of the national schemes they examined with some of the features along with Nordics and others.  It's an interesting document if you are thoughtful about the balance between individualism and solidarity and what should best inform private pensions policy for the masses.

It's also pure bluesky wishful thinking in current political realities and priorities. The key thing would be finding the on ramp on which to demonstrate it can work and then tilt the playing field to bulk it up fairly quickly in step 2 thereafter.  That lowers the political risk of playing with something radical.  The danger as always is that it gets left around at unloved pilot stage as *yet another* layer of complexity on policy and operations.  Which sadly - would be the more likely outcome. 

Meanwhile make your drawdown plan and enjoy your pension freedoms.  Carpe Diem.

michaels

gm0 said:

DC drawdown is well enough studied that it is possible to draw some tentative risk management conclusions. If you  look at the literature and avoid the snake oil salesfolk.  And then adjust your own plan to taste and circumstances with advisor help or not. Then it is what it is.

But as a policy - DC drawdown at a single start date (SORR not pooled with other cohorts in a scheme) and with longevity risk (not pooled with others for cross subsidy from early death to late - as with an annuity) is inherently a more fragile setup for the individual. Exposed to both outliving their pension pot and to whatever investment outcomes as may arise and their exact sequence whether it's an old favourite from backtesting (a valuation correction cycle over most of a decade early in deaccumulation) or something new and unexpected.

Yes - there are many advantages of individual DC drawdown principally around income flexibility and heritability.   But strategic weaknesses as a mass private pension policy.  And the complexity when measured against the level of financial education presently enjoyed in this country.  Oh dear.  (This doesn't mean that the decision to abandon capped drawdown was wrong or to solve the low gilt rates stopping "forced annuity purchase" was either).  But those tactical decisions being "least worst at the time" doesn't a strategy that works for all make.

It works for some people - but it doesn't work for everyone with small private pensions from employment.  Regulated advice as currently configured cannot really reach down economically to all pensions sizes.  Previous scandals inform us that light touch regulation is a no go (British Steel etc.). Vultures will gather and prey upon the less well informed or numerate.  Your typical pensions minister has barely got their brain around all the contradictions and obstacles to change as briefed by Sir Humphrey  then they are off to the next job or replaced by one from the other lot.  X-party political agreement is essential and elusive for long lived policy and incentives like this.   Debate about it (even from people who have done the job and should know better) is often simplistic and playing to the gallery (as with the recent spouse uprating mini-scandal on StatePension which is a great example of where repeated political small scale policy meddling and combinational complexity has overwhelmed administration).  Cockup not conspiracy.  And root cause is not junior civil servant operational failure or malfeance it's excessive complexity getting layered in again and again.  Add something new.  Don't tidy up.  Transitional reliefs for all voters who are awake and offended.

Although stillborn so far the Defined Ambition ideas in the pensions reform consultation based on international comparison is interesting. Indicative of some of the thinking in relevant policy circles about ways to recover some of the "old system" benefits - around security for the member (not running out - longevity risk), benefits linked to investment performance (but pooled - economies of scale and more controversially - across cohort start dates (temporally (With Profits redux for SORR)).  Winners win less. Losers lose less.  Solidarity across the group over a purely individual risk and return hitched to your retirement date.   Mild benefits for all from economies of scale. 

All this alongside a capped (to current day) obligation for sponsor to what was put in at the time (the key compelling feature of DC for the sponsor).  Nobody turns up 30 years later and says eek - longevity increased with wonderdrug X.  20bn please. And if they haven't already gone bust due to technology change they then do and it's PPF time. Tax payer cops the liability and members get a 10% haircut.  Take something like the ICI pension schemes (remember them - big refining and speciality chemicals, polymers and paints, agri-business, fibres, pharma) when we used to make such things in the UK before it became too expensive to do it here.  Think how many companies on they are now in terms of inheriting estimated but not certain historic liabilities to sponsor.  And then there is the likes of BT and BA who meddle in phones and planes around being a historic pension scheme operation and cannot be allowed to fail

If such a DA scheme was in place with trusted governance semi-detached from the government balance sheet - then it would have a number of very positive risk reduction features for the member.  Complexity abstracted away from the individual again. 
But political consensus is absent and the transition from here to there is next to impossible.

Even getting started with some armtwistable large key employers (who are one accounting scandal or technology generational change away from the PPF) to try it out has been too much of an ask at least so far.  Inevitably this sort of national scheme idea - leads to cohort cross subsidies, retained profits, actuarial death pooling.  Penalties for exit (cash transfer out) to make that unattractive to game.  The presumption of such a scheme is that "most" people are in it even if private pensions of some other types persist in parallel.   Netherlands is a quoted example (not of the exact idea but one of the national schemes they examined with some of the features along with Nordics and others.  It's an interesting document if you are thoughtful about the balance between individualism and solidarity and what should best inform private pensions policy for the masses.

It's also pure bluesky wishful thinking in current political realities and priorities. The key thing would be finding the on ramp on which to demonstrate it can work and then tilt the playing field to bulk it up fairly quickly in step 2 thereafter.  That lowers the political risk of playing with something radical.  The danger as always is that it gets left around at unloved pilot stage as *yet another* layer of complexity on policy and operations.  Which sadly - would be the more likely outcome. 

Meanwhile make your drawdown plan and enjoy your pension freedoms.  Carpe Diem.

Why would state/cooperative annuities be cheaper than private sector ones?  And if you put your pot into a state scheme you would then be at the mercy of rule change - perhaps a 1% NHS levy for example....

Agree the pooling especially of longevity risk theoretically makes sense but even with that advantage the annuity rates available are still much lower than the historic SWRs with an assumed 100 year+ lifespan - it seems it is not the longevity risk but the guarantee element that is the expensive bit.

jamesd

Yes, the guarantee is expensive largely because of the investments it tends to force: gilts and inflation-linked gilts. Effectively guaranteed, but low, returns, so low annuity rates.

I'd probably regard any defined ambition scheme as a plague because the incentives for the managers would cause it to be over-conservative.

BritishInvestor

Terron said:

jamesd said:

gm0 wasn't being pessimistic but realistic and pragmatic. We do it because it's been well proved against really bad things like a world war, while knowing that there's that chance of something worse... but that events like death before the end of the planning horizon dominate the bad result scenarios, not the other unknowns.

In the original work the world war was good for pensions as the US markets did well out of it. The worst events were the great depression and the oil crisis. For Britian the war was worse and that is the main reason the SWR rate from such calculations is lower for the UK. I think death was left out of it.

"For Britian the war was worse and that is the main reason the SWR rate from such calculations is lower for the UK."
It wasn't the worst time (typically) from a UK SWR perspective.

jamesd

If I remember correctly the UK worst starting year was 1937, so severely influenced by WW2 early in retirement and post-war rationing.

An atypical time but by their nature a 100% success rate SWR is atypical because it's set by the worst observed sequence for the rules and investments being used.