Pension Funds and De-Risking

zagfles

bostonerimus said:

zagfles said:

bostonerimus said:

zagfles said:

Prism said:

k6chris said:

dunstonh said:

95% of market falls recover within 3 years (actually much less than that).   So, a cash buffer avoids sales of units in the vast majority of negative periods.   You cannot cover all eventualities but you can take reasonable steps.

Genuine question, how and when do you replace that cash buffer? Thanks.

I did a simulation of a cash buffer with the 2000 crash and it was almost impossible to replace it at any time within the first 15 years. In fact the cash buffer with a high allocation of equities didn't really work at all as you ended up holding onto all of those equites to the very bottom in 2003, at which point the buffer was gone and then you started selling equites as they began to rise (just when it would have been ideal to hold onto them). Then 2008 hit and there was no cash buffer and this was the real crash.

All that time I imagine someone would have been constantly questioning their choices on what to use that year - cash or equities. Who knew that the best approach would have been to sell equities in 2000, 2001 and 2002 because it was in fact going to go even lower.

Of course someone with a 'proper' retirement allocation of bonds and equities wouldn likely have never needed the cash buffer as they would have sold some bonds.

Yes I did similar myself, downloaded some historical SORs and using a "cash buffer" made hardly any difference to outcomes, however the criteria was tweaked. Maybe someone here who favours it/uses it can point us at an analysis of using a cash buffer strategy and how it would have fared in a wide variety of historical and international markets, together with rules and critera for using it/refloating it?

Here is such a study, make of it what you will.

https://www.financialplanningassociation.org/article/journal/SEP13-benefits-cash-reserve-strategy-retirement-distribution-planning

Interesting but it's US based and the main advantage of using the cash buffer seems to be transaction costs and taxes, something unlikely to be make a significant difference in the UK using funds in pensions and cash unwrapped/in ISAs. In fact I would guess taxes are likely be be higher in the UK using a cash buffer as the best interest rates for cash are unwrapped. When these are ignored, they come to the same conclusion I did, hardly any difference.

I think you are not reading the results correctly. There is a marginal benefit (~1% more successful outcomes) to not having a cash buffer in a no tax and no transaction cost scenario. The cash buffer wins out with transaction costs and taxation. In the UK there will be tax on pension withdrawals and many people will have transaction costs, but once you get into the details of taxation comparisons do become difficult. The utility and practicality of cash in the bank makes it a good thing for everyone to have. When you are working it's good practice to have an emergency cash buffer of maybe a year's spending and I don't see any reason to have less than that when retired and I would tilt towards more.

The danger in retirement is that people are pushed towards more risk and more aggressive investment strategies in order to compensate for a small pension pot relative to their perceived income needs. This is a big downside to the liberalization of retirement finances in the UK.

Indeed I did - so the cash buffer shows a worse result without accounting for what seems to be US specific taxes and transaction costs!

I can't see why in the UK there'd be any difference in transaction costs and taxes whether you use a cash buffer or not. Obviously assuming you redistribute in the way I mentioned earlier if eg you want to draw from the pension wrapper for tax reasons but want to spend from cash for asset balancing reasons.

Linton

DT2001 said:

If time in the market is correct then having cash must be detrimental?

If you have a cash buffer when do you refill? Is that then timing the market?

Psychologically IMO cash is good.

I think the emphasis should be on flexibility of expenditure rather than asset allocation. If your greatest worry is sequence of return work out how to reduce that through an annuity or bond ladder. Lower returns but greater peace of mind.

Mostly  agree.......
Some of the contributions to this thread seem to be looking for the strategy that maximises return whilst putting up with the inconvenience of having to withdraw money to finance their lifstyle.  I guess the contributors with that view are not yet retired or become dependent on their savings for their future happiness.  Retiring changes your perspective.

However in my case imposed flexibility of expenditure means unhappiness.  What is most important is that we can sleep at night confident in being able to afford our current lifestyle for the foreseeable future with no concern about short or medium term movements in the equity market or any other financial matters. I see no benefit in putting extra in growth equity if the end result is dying with a much larger estate at the cost of having to skimp on decent wine, interesting holidays, and a comfortable car.

To that end I have high level allocations to growth, income, and to reserves held as cash or lower risk investments.  The allocation to reserves is sufficient to guarantee our wants are met for the next 10 years at least, barring major global economic failures. The 35-40% of total investible wealth held for growth should therefore not need to be touched for at least 10 years.

The reserve, income and growth portfolios are managed completely separately. Market timing has nothing to do with the strategy, nor is there great concern about replenishing the reserves.  The time to look at that would be if their depletion caused unhappiness - not a problem at the moment as Covid has constrained expenditure and the income portfolio together with the guaranteed income is more than meeting all our needs.

If you are seriously risk averse then an annuity or bond ladder would be appropriate.  However for me that is an overkill as our  basic needs are met by guaranteed income.

I disagree with Dunstonh on looking at one's investments as a whole.  It is not a matter of whether one is able to do it or not but rather whether it makes sense.  In the situation explained above, allocation is governed by requirements, not by whether 40%, 60%, or 80% equity overall is appropriate.  I do not see how one could possibly rationally allocate one's assets on an overall basis.

dunstonh

I disagree with Dunstonh on looking at one's investments as a whole.  It is not a matter of whether one is able to do it or not but rather whether it makes sense.  In the situation explained above, allocation is governed by requirements, not by whether 40%, 60%, or 80% equity overall is appropriate.  I do not see how one could possibly rationally allocate one's assets on an overall basis.

Ok.  So, let's say you have a portfolio that includes a SIPP, ISA, GIA and offshore bond and a couple of hundred thousand in the bank.   Do, you look at each thing in isolation or do you view them as an overall scenario?

Some people close to the LTA may use their pension to hold their low risk assets whilst using their other wrappers to hold their high risk assets.  At least until the age 75 BCE check.     But it requires you to look at the situation holistically and not wrappers in isolation.

Someone with £500k in cash savings may invest their pension with 100% equity as they look at the average risk of the two things together but others find it difficult to look at it that way and couldn't handle the volatility of the risk based investments in isolation.

bostonerimus

zagfles said:

bostonerimus said:

zagfles said:

bostonerimus said:

zagfles said:

Prism said:

k6chris said:

dunstonh said:

95% of market falls recover within 3 years (actually much less than that).   So, a cash buffer avoids sales of units in the vast majority of negative periods.   You cannot cover all eventualities but you can take reasonable steps.

Genuine question, how and when do you replace that cash buffer? Thanks.

I did a simulation of a cash buffer with the 2000 crash and it was almost impossible to replace it at any time within the first 15 years. In fact the cash buffer with a high allocation of equities didn't really work at all as you ended up holding onto all of those equites to the very bottom in 2003, at which point the buffer was gone and then you started selling equites as they began to rise (just when it would have been ideal to hold onto them). Then 2008 hit and there was no cash buffer and this was the real crash.

All that time I imagine someone would have been constantly questioning their choices on what to use that year - cash or equities. Who knew that the best approach would have been to sell equities in 2000, 2001 and 2002 because it was in fact going to go even lower.

Of course someone with a 'proper' retirement allocation of bonds and equities wouldn likely have never needed the cash buffer as they would have sold some bonds.

Yes I did similar myself, downloaded some historical SORs and using a "cash buffer" made hardly any difference to outcomes, however the criteria was tweaked. Maybe someone here who favours it/uses it can point us at an analysis of using a cash buffer strategy and how it would have fared in a wide variety of historical and international markets, together with rules and critera for using it/refloating it?

Here is such a study, make of it what you will.

https://www.financialplanningassociation.org/article/journal/SEP13-benefits-cash-reserve-strategy-retirement-distribution-planning

Interesting but it's US based and the main advantage of using the cash buffer seems to be transaction costs and taxes, something unlikely to be make a significant difference in the UK using funds in pensions and cash unwrapped/in ISAs. In fact I would guess taxes are likely be be higher in the UK using a cash buffer as the best interest rates for cash are unwrapped. When these are ignored, they come to the same conclusion I did, hardly any difference.

I think you are not reading the results correctly. There is a marginal benefit (~1% more successful outcomes) to not having a cash buffer in a no tax and no transaction cost scenario. The cash buffer wins out with transaction costs and taxation. In the UK there will be tax on pension withdrawals and many people will have transaction costs, but once you get into the details of taxation comparisons do become difficult. The utility and practicality of cash in the bank makes it a good thing for everyone to have. When you are working it's good practice to have an emergency cash buffer of maybe a year's spending and I don't see any reason to have less than that when retired and I would tilt towards more.

The danger in retirement is that people are pushed towards more risk and more aggressive investment strategies in order to compensate for a small pension pot relative to their perceived income needs. This is a big downside to the liberalization of retirement finances in the UK.

Indeed I did - so the cash buffer shows a worse result without accounting for what seems to be US specific taxes and transaction costs!

I can't see why in the UK there'd be any difference in transaction costs and taxes whether you use a cash buffer or not. Obviously assuming you redistribute in the way I mentioned earlier if eg you want to draw from the pension wrapper for tax reasons but want to spend from cash for asset balancing reasons.

The comparison is between having a cash buffer and not. If you ignore taxes and costs  there's a marginal (1%) benefit to not having a cash buffer. If you add in tax and costs then cash wins. You will have to look at the specific case for the UK, but If you draw from a cash account there will be no tax and If you draw from a tax deferred account there will be tax to pay in that year. There will be nuances like ISAs in the UK and ROTHs in the US and this is just one study. But I don't hold 2 year's of cash because of some strategic retirement goal, it's purely tactical to pay bills and cover large expenses without the faff (that's Wade Faff) of selling stuff.

Thrugelmir

DT2001 said:

If time in the market is correct then having cash must be detrimental?

Nothing on the horizon concerns you? 

Linton

dunstonh said:

I disagree with Dunstonh on looking at one's investments as a whole.  It is not a matter of whether one is able to do it or not but rather whether it makes sense.  In the situation explained above, allocation is governed by requirements, not by whether 40%, 60%, or 80% equity overall is appropriate.  I do not see how one could possibly rationally allocate one's assets on an overall basis.

Ok.  So, let's say you have a portfolio that includes a SIPP, ISA, GIA and offshore bond and a couple of hundred thousand in the bank.   Do, you look at each thing in isolation or do you view them as an overall scenario?

Some people close to the LTA may use their pension to hold their low risk assets whilst using their other wrappers to hold their high risk wrappers.  At least until the age 75 BCE check.     But it requires you to look at the situation holistically and not wrappers in isolation.

Someone with £500k in cash savings may invest their pension with 100% equity as they look at the average risk of the two things together but others find it difficult to look at it that way and couldn't handle the volatility of the risk based investments in isolation.

Where each investment is held is totally irrelevent to the strategy.  Placement is governed more by convenience at the time - eg where there is spare cash when a purchase is required.  This also applies to his and hers investments.  For example there are growth portfolio components held in all the his and hers SIPPs  and ISAs.  Some of the cash happens to be in my name and the rest in my wife's, it is fairly arbitrary.  There may be other factors such as minimising admin and ongoing tax by putting an income portfolio in an ISA rather than a SIPP.  Managing LTA can be regarded as another example, though not one we have.

Doing this requires use of spreadsheets and software which can manage cross platform portfolios. and tools such as morningstar which operate purely on a portfolio basis.  It would not be possible purely using the separate data from each platform. 

I dont look at the cash and equity together and worry about the overall risk.  The cash, for these purposes, is considered risk free so no worries and the growth equity volatility can be completely ignored since those investments dont need to be touched for at least 10 years, by which time who knows what sort of world we will be living in.  So no worries there either.

zagfles

bostonerimus said:

zagfles said:

bostonerimus said:

zagfles said:

bostonerimus said:

zagfles said:

Prism said:

k6chris said:

dunstonh said:

95% of market falls recover within 3 years (actually much less than that).   So, a cash buffer avoids sales of units in the vast majority of negative periods.   You cannot cover all eventualities but you can take reasonable steps.

Genuine question, how and when do you replace that cash buffer? Thanks.

I did a simulation of a cash buffer with the 2000 crash and it was almost impossible to replace it at any time within the first 15 years. In fact the cash buffer with a high allocation of equities didn't really work at all as you ended up holding onto all of those equites to the very bottom in 2003, at which point the buffer was gone and then you started selling equites as they began to rise (just when it would have been ideal to hold onto them). Then 2008 hit and there was no cash buffer and this was the real crash.

All that time I imagine someone would have been constantly questioning their choices on what to use that year - cash or equities. Who knew that the best approach would have been to sell equities in 2000, 2001 and 2002 because it was in fact going to go even lower.

Of course someone with a 'proper' retirement allocation of bonds and equities wouldn likely have never needed the cash buffer as they would have sold some bonds.

Yes I did similar myself, downloaded some historical SORs and using a "cash buffer" made hardly any difference to outcomes, however the criteria was tweaked. Maybe someone here who favours it/uses it can point us at an analysis of using a cash buffer strategy and how it would have fared in a wide variety of historical and international markets, together with rules and critera for using it/refloating it?

Here is such a study, make of it what you will.

https://www.financialplanningassociation.org/article/journal/SEP13-benefits-cash-reserve-strategy-retirement-distribution-planning

Interesting but it's US based and the main advantage of using the cash buffer seems to be transaction costs and taxes, something unlikely to be make a significant difference in the UK using funds in pensions and cash unwrapped/in ISAs. In fact I would guess taxes are likely be be higher in the UK using a cash buffer as the best interest rates for cash are unwrapped. When these are ignored, they come to the same conclusion I did, hardly any difference.

I think you are not reading the results correctly. There is a marginal benefit (~1% more successful outcomes) to not having a cash buffer in a no tax and no transaction cost scenario. The cash buffer wins out with transaction costs and taxation. In the UK there will be tax on pension withdrawals and many people will have transaction costs, but once you get into the details of taxation comparisons do become difficult. The utility and practicality of cash in the bank makes it a good thing for everyone to have. When you are working it's good practice to have an emergency cash buffer of maybe a year's spending and I don't see any reason to have less than that when retired and I would tilt towards more.

The danger in retirement is that people are pushed towards more risk and more aggressive investment strategies in order to compensate for a small pension pot relative to their perceived income needs. This is a big downside to the liberalization of retirement finances in the UK.

Indeed I did - so the cash buffer shows a worse result without accounting for what seems to be US specific taxes and transaction costs!

I can't see why in the UK there'd be any difference in transaction costs and taxes whether you use a cash buffer or not. Obviously assuming you redistribute in the way I mentioned earlier if eg you want to draw from the pension wrapper for tax reasons but want to spend from cash for asset balancing reasons.

The comparison is between having a cash buffer and not. If you ignore taxes and costs cash there's a marginal (1%) benefit to not having a cash buffer. If you add in tax and costs then cash wins. You will have to look at the specific case for the UK, but If you draw from a cash account there will be no tax and If you draw from a tax deferred account there will be tax to pay in that year. There will be nuances like ISAs in the UK and ROTHs in the US and this is just one study. But I don't hold 2 year's of cash because of some strategic retirement goal, it's purely tactical to pay bills and cover large expenses without the faff (that's Wade Faff) of selling stuff.

The point we're discussing is holding a cash buffer for strategic purposes, which varies according to market conditions (ie can be depleted during "downturns"). Not practical purposes. Of course everyone will have some cash for practical purposes.

bostonerimus

zagfles said:

bostonerimus said:

zagfles said:

bostonerimus said:

zagfles said:

bostonerimus said:

zagfles said:

Prism said:

k6chris said:

dunstonh said:

95% of market falls recover within 3 years (actually much less than that).   So, a cash buffer avoids sales of units in the vast majority of negative periods.   You cannot cover all eventualities but you can take reasonable steps.

Genuine question, how and when do you replace that cash buffer? Thanks.

I did a simulation of a cash buffer with the 2000 crash and it was almost impossible to replace it at any time within the first 15 years. In fact the cash buffer with a high allocation of equities didn't really work at all as you ended up holding onto all of those equites to the very bottom in 2003, at which point the buffer was gone and then you started selling equites as they began to rise (just when it would have been ideal to hold onto them). Then 2008 hit and there was no cash buffer and this was the real crash.

All that time I imagine someone would have been constantly questioning their choices on what to use that year - cash or equities. Who knew that the best approach would have been to sell equities in 2000, 2001 and 2002 because it was in fact going to go even lower.

Of course someone with a 'proper' retirement allocation of bonds and equities wouldn likely have never needed the cash buffer as they would have sold some bonds.

Yes I did similar myself, downloaded some historical SORs and using a "cash buffer" made hardly any difference to outcomes, however the criteria was tweaked. Maybe someone here who favours it/uses it can point us at an analysis of using a cash buffer strategy and how it would have fared in a wide variety of historical and international markets, together with rules and critera for using it/refloating it?

Here is such a study, make of it what you will.

https://www.financialplanningassociation.org/article/journal/SEP13-benefits-cash-reserve-strategy-retirement-distribution-planning

Interesting but it's US based and the main advantage of using the cash buffer seems to be transaction costs and taxes, something unlikely to be make a significant difference in the UK using funds in pensions and cash unwrapped/in ISAs. In fact I would guess taxes are likely be be higher in the UK using a cash buffer as the best interest rates for cash are unwrapped. When these are ignored, they come to the same conclusion I did, hardly any difference.

I think you are not reading the results correctly. There is a marginal benefit (~1% more successful outcomes) to not having a cash buffer in a no tax and no transaction cost scenario. The cash buffer wins out with transaction costs and taxation. In the UK there will be tax on pension withdrawals and many people will have transaction costs, but once you get into the details of taxation comparisons do become difficult. The utility and practicality of cash in the bank makes it a good thing for everyone to have. When you are working it's good practice to have an emergency cash buffer of maybe a year's spending and I don't see any reason to have less than that when retired and I would tilt towards more.

The danger in retirement is that people are pushed towards more risk and more aggressive investment strategies in order to compensate for a small pension pot relative to their perceived income needs. This is a big downside to the liberalization of retirement finances in the UK.

Indeed I did - so the cash buffer shows a worse result without accounting for what seems to be US specific taxes and transaction costs!

I can't see why in the UK there'd be any difference in transaction costs and taxes whether you use a cash buffer or not. Obviously assuming you redistribute in the way I mentioned earlier if eg you want to draw from the pension wrapper for tax reasons but want to spend from cash for asset balancing reasons.

The comparison is between having a cash buffer and not. If you ignore taxes and costs cash there's a marginal (1%) benefit to not having a cash buffer. If you add in tax and costs then cash wins. You will have to look at the specific case for the UK, but If you draw from a cash account there will be no tax and If you draw from a tax deferred account there will be tax to pay in that year. There will be nuances like ISAs in the UK and ROTHs in the US and this is just one study. But I don't hold 2 year's of cash because of some strategic retirement goal, it's purely tactical to pay bills and cover large expenses without the faff (that's Wade Faff) of selling stuff.

The point we're discussing is holding a cash buffer for strategic purposes, which varies according to market conditions (ie can be depleted during "downturns"). Not practical purposes. Of course everyone will have some cash for practical purposes.

...and the US study shows that when you have to pay taxes and costs and run a Monte Carlo using historical data the cash wins out and in the unrealistic scenario of no tax or costs cash vs no cash are almost the same. But we should never forget that mathematical modeling should not be used in isolation and that practicalities are critical in the real world outside of algorithms. The US study might be full of confirmation bias, but does it support the prevailing dogma of having a cash buffer as part of the portfolio. An equivalent UK study would be interesting.

Notepad_Phil

Linton said:

I dont look at the cash and equity together and worry about the overall risk.  The cash, for these purposes, is considered risk free so no worries and the growth equity volatility can be completely ignored since those investments dont need to be touched for at least 10 years, by which time who knows what sort of world we will be living in.  So no worries there either.

But doesn't that mean that you are looking at both the cash and equity together?

You're happy to have ten years of cash or 'near' cash because you have the investments, and vice versa you're happy to have the growth equity because you've got the cash.

I'm similar to you in having many years of cash but only because I've got the backing of 100% equities in my investments that will hopefully take care of the longer term.

zagfles

bostonerimus said:

zagfles said:

bostonerimus said:

zagfles said:

bostonerimus said:

zagfles said:

bostonerimus said:

zagfles said:

Prism said:

k6chris said:

dunstonh said:

95% of market falls recover within 3 years (actually much less than that).   So, a cash buffer avoids sales of units in the vast majority of negative periods.   You cannot cover all eventualities but you can take reasonable steps.

Genuine question, how and when do you replace that cash buffer? Thanks.

I did a simulation of a cash buffer with the 2000 crash and it was almost impossible to replace it at any time within the first 15 years. In fact the cash buffer with a high allocation of equities didn't really work at all as you ended up holding onto all of those equites to the very bottom in 2003, at which point the buffer was gone and then you started selling equites as they began to rise (just when it would have been ideal to hold onto them). Then 2008 hit and there was no cash buffer and this was the real crash.

All that time I imagine someone would have been constantly questioning their choices on what to use that year - cash or equities. Who knew that the best approach would have been to sell equities in 2000, 2001 and 2002 because it was in fact going to go even lower.

Of course someone with a 'proper' retirement allocation of bonds and equities wouldn likely have never needed the cash buffer as they would have sold some bonds.

Yes I did similar myself, downloaded some historical SORs and using a "cash buffer" made hardly any difference to outcomes, however the criteria was tweaked. Maybe someone here who favours it/uses it can point us at an analysis of using a cash buffer strategy and how it would have fared in a wide variety of historical and international markets, together with rules and critera for using it/refloating it?

Here is such a study, make of it what you will.

https://www.financialplanningassociation.org/article/journal/SEP13-benefits-cash-reserve-strategy-retirement-distribution-planning

Interesting but it's US based and the main advantage of using the cash buffer seems to be transaction costs and taxes, something unlikely to be make a significant difference in the UK using funds in pensions and cash unwrapped/in ISAs. In fact I would guess taxes are likely be be higher in the UK using a cash buffer as the best interest rates for cash are unwrapped. When these are ignored, they come to the same conclusion I did, hardly any difference.

I think you are not reading the results correctly. There is a marginal benefit (~1% more successful outcomes) to not having a cash buffer in a no tax and no transaction cost scenario. The cash buffer wins out with transaction costs and taxation. In the UK there will be tax on pension withdrawals and many people will have transaction costs, but once you get into the details of taxation comparisons do become difficult. The utility and practicality of cash in the bank makes it a good thing for everyone to have. When you are working it's good practice to have an emergency cash buffer of maybe a year's spending and I don't see any reason to have less than that when retired and I would tilt towards more.

The danger in retirement is that people are pushed towards more risk and more aggressive investment strategies in order to compensate for a small pension pot relative to their perceived income needs. This is a big downside to the liberalization of retirement finances in the UK.

Indeed I did - so the cash buffer shows a worse result without accounting for what seems to be US specific taxes and transaction costs!

I can't see why in the UK there'd be any difference in transaction costs and taxes whether you use a cash buffer or not. Obviously assuming you redistribute in the way I mentioned earlier if eg you want to draw from the pension wrapper for tax reasons but want to spend from cash for asset balancing reasons.

The comparison is between having a cash buffer and not. If you ignore taxes and costs cash there's a marginal (1%) benefit to not having a cash buffer. If you add in tax and costs then cash wins. You will have to look at the specific case for the UK, but If you draw from a cash account there will be no tax and If you draw from a tax deferred account there will be tax to pay in that year. There will be nuances like ISAs in the UK and ROTHs in the US and this is just one study. But I don't hold 2 year's of cash because of some strategic retirement goal, it's purely tactical to pay bills and cover large expenses without the faff (that's Wade Faff) of selling stuff.

The point we're discussing is holding a cash buffer for strategic purposes, which varies according to market conditions (ie can be depleted during "downturns"). Not practical purposes. Of course everyone will have some cash for practical purposes.

...and the US study shows that when you have to pay taxes and costs and run a Monte Carlo using historical data the cash wins out and in the unrealistic scenario of no tax or costs cash vs no cash are almost the same. But we should never forget that mathematical modeling should not be used in isolation and that practicalities are critical in the real world outside of algorithms. The US study might be full of confirmation bias, but does it support the prevailing dogma of having a cash buffer as part of the portfolio. An equivalent UK study would be interesting.

As I've said, I can't see why taxes or costs would be lower with the cash buffer strategy in the UK. There might be a reason for it the US, but I'm not really interested in US taxes or costs. So I think the study ignoring taxes/costs is more relevant for the UK.