Equities exposure when approaching retirement age

kempiejon

Alexland said:

kempiejon said:

I've some gold and bonds say 10% of my retirement pot. I'm gradually looking to increase that but so far equities have grown faster making that hard.

Yes it's hard and that's a combination or recency bias and FOMO at work putting a higher weighting to what has happened over the past 15 years, and the higher perceived opportunity with equities because they are more volatile, than what has happened before that especially where the history goes back beyond our own personal experience.

Nah it's not that. 90% of my pot, the equities bit is growing at 10% a year, although gold has gone up 50% this year it's in the minority compared to bonds which are broadly flat. The 10% safe assets aren't growing as fast as the risky 90% so will always lag unless I sell to rebalance, get new money to invest or the equities take a hit. I'm not especially motivated to intercede but with a new tax year there will be some unsheltered gains to move to the SIPP so an opportunity to adjust balance a bit.

Veloflyer

Alexland said:

kempiejon said:

I've some gold and bonds say 10% of my retirement pot. I'm gradually looking to increase that but so far equities have grown faster making that hard.

Yes it's hard and that's a combination or recency bias and FOMO at work putting a higher weighting to what has happened over the past 15 years, and the higher perceived opportunity with equities because they are more volatile, than what has happened before that especially where the history goes back beyond our own personal experiences.

Market conditions have trained us to keep bidding up equities regardless of valuation and that's when things get dangerous and bubbles can form. Events happen that pop them. Similarly it's recently trained us that bonds have little growth and low opportunity (it's time to take a fresh look). It's trained us that there are no benefits to being diversified and rebalancing because it usually tends to be just equities going up.

My suggestion is to step back and try and imagine you are an alien who has just arrived with no experience of recent performance (so you are weighing the whole history of the markets equally) and consider where the opportunities and risks might, at current valuations, for your circumstances be when devising your asset allocation.

I've found it's interesting to read perspectives from the past Ben Graham etc when their recency bias was very different to ours and to cast my mind back to what I can either remember or imagine it would have been like investing in past time periods (such as the 2000s as above).

Playing Devil's advocate perhaps and also awaiting to be shot down in flames.....What sound reason is there to demonstrate that equities will not perform as well as they have done over the past 15 years or so? Folk have been saying that the bubble will burst for years and yet it continues to float along merrily, providing growth which seems to well outperform bonds - for instance. If a suitable cash buffer is kept as contingency against a market crash and a subsequent recovery, then perhaps growth may still be maximised and an acceptable risk thus maintained?  

Bostonerimus1

Alexland said:

I think we are getting to the point of all agreeing that it's fine to be 100% equities provided we are only talking about the equities part of the portfolio. Clearly some other assets will be needed to cover the bad periods in which case we're not really 100% equities but some proportion of it which takes us back to the original question of how much of a portfolio should be in equities.

Having a strategy that requires reduced spending during retirement isn't great. You might choose do do it anyway seeing the opportunity but it's a big difference choosing to do something for benefit versus being forced to do something because of the consequences even if it's the same thing you are doing.

A few years ago equities (and as it turns out gold) were the only assets worth having. Now looking at valuations it seems to have flipped with both cash (for now) and bonds (locking in) are looking good for above inflation returns with the prices of equites and gold looking rather high (however gold might be valued) and at current valuations I have some doubts on if equities can even beat inflation let alone ILGs over the medium term even if long term they should be fine.

I've done well (been lucky maybe) making calls on asset allocation going heavy on equities when cash and bonds were unattractive and I hope to do well going more diversified now. There's a lot to be said for the 4 asset permanent portfolio (or a portfolio of just cash, bonds and equities in equal weights if you don't believe in gold and like to see a logical return) and getting some advantage from rebalancing in giving a smoother ride so you're not having to constantly adapt your lifestyle around portfolio performance.

In my investible assets I'm around 80% equities, 10% bonds (in an old multi-asset fund I own) and 10% cash. I've stopped doing any rebalancing so the equity allocation keeps growing and it will hit 90% if markets keep going up, but it will fall when the crash comes. Because I live off income from rent and a DB pension I've basically forgotten about my DC pensions and investments and that was a conscious part of my retirement plan, I didn't want to depend on equities or bonds for my retirement income. When I need a new car or make gifts I take from my cash allocation and then top it up from equities, but that only happens once a year. When the crash comes I won't be buying new cars or gifting as much, but my income will stay the same, and day to day live won't change.

Alexland

Veloflyer said:

Playing Devil's advocate perhaps and also awaiting to be shot down in flames.....What sound reason is there to demonstrate that equities will not perform as well as they have done over the past 15 years or so?

The future can't be proven either way but the more overvalued an asset becomes the harder it is to keep outperforming as ultimately you are buying increasingly less earnings with your money. Eventually you get to the point where you own something with very little return potential anytime soon and high price sensitivity. 

Folk have been saying that the bubble will burst for years and yet it continues to float along merrily, providing growth which seems to well outperform bonds - for instance.

Yup, these are exactly the right conditions for a valuation bubble to form. Central banks do a better job at stabilising markets these days but it becomes self-fulfilling after a while where people will only want to invest in things that have gone up in price recently and miss the opportunity in buying assets that have undergone a massive negative revaluation recently because people have had a recent bad experience with them and the datasheets look uncompelling.

Veloflyer said:
If a suitable cash buffer is kept as contingency against a market crash and a subsequent recovery, then perhaps growth may still be maximised and an acceptable risk thus maintained?  

Maybe who knows I'm just making the argument that once you get enough money and you don't want to lose it, want to see it grow above inflation, and/or want to draw a regular income from it then there's a strong case for diversification as the lower risk stuff has good growth prospects now and the higher risk stuff is looking more risky than for a long time. Risk is variable on valuation it's not constant across the economic cycle as was recently demonstrated by the bond market crash. Long dated ILGs are now offering up to 2% above inflation it's time to reassess them.

People are welcome to do what they wish with their portfolios, this is a forum and that's my view and I hope nobody thinks I'm shooting them down in flames.

Veloflyer

I can see both sides to the above. At present I am tempted to stick 50% of the pot in an ILG ladder and leave the rest in equities. Hedging my bets if you will.....

MallyGirl

Veloflyer said:

I can see both sides to the above. At present I am tempted to stick 50% of the pot in an ILG ladder and leave the rest in equities. Hedging my bets if you will.....

Aka diversification 

Veloflyer

MallyGirl said:

Veloflyer said:

I can see both sides to the above. At present I am tempted to stick 50% of the pot in an ILG ladder and leave the rest in equities. Hedging my bets if you will.....

Aka diversification 

Well quite...there comes a point where you start arguing against yourself. I think I've reached it!

Alexland

Veloflyer said:

Well quite...there comes a point where you start arguing against yourself. I think I've reached it!

Although I intend to build an ILG ladder eventually it's hard to justify getting less than 2% above inflation on most of them so I've just plumped for TR50 for now which is roughly halfway through my expected retirement. Hopefully there will be opportunities to make some gains reallocating capital up and down in duration as the yield curve changes shape in the years leading up to my retirement.

OldScientist

Alexland said:

I think we are getting to the point of all agreeing that it's fine to be 100% equities provided we are only talking about the equities part of the portfolio. Clearly some other assets will be needed to cover the bad periods in which case we're not really 100% equities but some proportion of it which takes us back to the original question of how much of a portfolio should be in equities.

Having a strategy that requires reduced spending during retirement isn't great. You might choose do do it anyway seeing the opportunity but it's a big difference choosing to do something for benefit versus being forced to do something because of the consequences even if it's the same thing you are doing.

At the extremes, the choice for portfolio withdrawals lies between

a) constant inflation adjusted withdrawals (i.e., SWR strategy) where the real incomer is constant, but the length of time before portfolio exhaustion (and zero income) is unknown.

b) percentage of portfolio (PoP) withdrawals (i.e., withdrawal=percentage*portfoliovalue) where the real income is variable but will last indefinitely (although withdrawals may get small).

Of course, there are also a number of withdrawal strategies that fall between these two extremes.

For the retiree, guaranteed income (state pension, DB pension, annuities, and ILG ladders) reduces the effect on overall income of the variability in portfolio income (whether due to portfolio exhaustion or using a variable withdrawal method).

For example, assuming a portfolio with 100% equities (50/50 UK/US, asset returns from macrohistory.net) and an initial percentage of portfolio of 4.5%, historically the worst withdrawal over rolling 30 years periods was, in real terms, 1.3% of the initial portfolio.

So, for a couple with a full state pension (£24k) and £100k portfolio their income would have started at £28.5k and, in the historical worst case, would have fallen as low as £25.3k. In other words, at some point, they would have had to put up with a drop of just under 20% of their initial income.

Now take a second couple with £1m in their portfolio. Their initial income would have been £69k, while in the worst case it would have fallen to 37k, i.e. a drop in income of almost half.

For the first couple, the reduction in income would probably not really have had a serious effect on their lifestyle, while in the latter case, it would. The second couple could consider three approaches (or a combination). 

a) Building inflation protected flooring (e.g., RPI annuity or ILG ladder) in addition to the state pension. For example, spending half the portfolio on an annuity with a payout rate of 4.7% (joint life, 100% beneficiaries, 67yo) would give an income floor of £47.5k (24+23.5), an initial income of £70k and a worst case income of £54k.

b) Changing to another withdrawal strategy. For example, a 50/50 mix of SWR and PoP led to a worst case withdrawal of 2.9%, and, in the given example, an overall income of £53k.

c) Increase the fixed income in their portfolio (e.g., changing the equity allocation to 70% increased the worst case withdrawal to 1.5% and £39k in the example given - i.e., not a lot of improvement!)

Note that out of the three approaches, changing the asset allocation has the least effect on the worst case income (although a lower equity allocation would reduce year-to-year variability).

Linton

OldScientist said:

Alexland said:

I think we are getting to the point of all agreeing that it's fine to be 100% equities provided we are only talking about the equities part of the portfolio. Clearly some other assets will be needed to cover the bad periods in which case we're not really 100% equities but some proportion of it which takes us back to the original question of how much of a portfolio should be in equities.

Having a strategy that requires reduced spending during retirement isn't great. You might choose do do it anyway seeing the opportunity but it's a big difference choosing to do something for benefit versus being forced to do something because of the consequences even if it's the same thing you are doing.

At the extremes, the choice for portfolio withdrawals lies between

a) constant inflation adjusted withdrawals (i.e., SWR strategy) where the real incomer is constant, but the length of time before portfolio exhaustion (and zero income) is unknown.

b) percentage of portfolio (PoP) withdrawals (i.e., withdrawal=percentage*portfoliovalue) where the real income is variable but will last indefinitely (although withdrawals may get small).

Of course, there are also a number of withdrawal strategies that fall between these two extremes.

For the retiree, guaranteed income (state pension, DB pension, annuities, and ILG ladders) reduces the effect on overall income of the variability in portfolio income (whether due to portfolio exhaustion or using a variable withdrawal method).....

....

I disagree that these repesent the bounds of how you can sustain your essential expenditure from an investment portfolo.  They both have the disadvantage that the primary driver of retirement income from an investment portfolio is the capital value of the investments which can be highly volatile.

I dont see how a % of portfolio withdrawal approach can possibly sustain retirement expenditure without a multi-year buffer. Most expenditure is fixed in advance, you cant simply raise and lower it directly in response to movements in the market.

The alternative approach is generating a steady income by dividends and interest.  So two extremes are better represented by taking income from selling growth investments or by using investments that generate income.