A risk profile isn't a one-size-fits-all phenomenon: what's appropriate for short-term investments or surplus income is all wrong when you're preparing for a retirement that might last 30 years. With no slick formulae available for assessing risk, we asked our panel from the Financial Planning Institute to outline the priorities.
There are many factors to take into account when you try and put a figure on the amount of money you need for retirement. For one thing, the figure will have to be as long as a telephone number - a long-distance one. That is going to require some well-laid plans on your part.
The usual rule of thumb is that if you want to maintain your current standard of living, you will need a lump sum at retirement equal to at least 15 times your annual salary. If you want to maintain a household income of R15 000 a month before tax, for example, then you need to have accrued R2,7 million at retirement. All four members of our Financial Planning Institute (FPI) panel agreed that there is no off-the-shelf retirement savings plan. Everyone is different: in personality, in financial circumstances and in their goals. These are the questions you should be asking yourself:
How many years until I retire?
Dr Philip van der Walt says you can take a lot more risk with your investments when you are younger than when you are older. At retirement, you have run out of time to recover lost funds. I would never advise anyone close to or at retirement to put more than 10 to 15 percent of their available assets into a risky investment, depending on the amount of money available, he says.
Catherine Currie says she usually tells clients that if they were 100 now, they should have 100 percent of their money invested in interest-bearing investments; at 50, their investments should be split 50:50 between interest-bearing and equity assets, and so on. In order to keep up with inflation, you have to take some risk - in other words, by holding potentially faster-growing investments such as shares. This is more important the longer the period for which you are saving.
How long will I live?
This is, of course, an impossible question to answer. If you knew what lay in store, you would know how much money you need for retirement, how much saving you need to do and how much risk you can take at this particular point.
Currie usually bases her assumptions on a lifespan of 80 years, but even that might not be enough. And the precedent set by your parents is not much help, since your lifestyle is probably different. If you have a much younger spouse or dependant or handicapped children, you have to take their long-term futures into account, too. Eugene Hartmann emphasises the importance of health - both your own and that of your dependants. Your cost of living after retirement will be substantially higher if you and your dependants are currently in poor health.
How much money will I need?
Debbie Netto-Jonker says her firm's approach to clients is to explain that this is where you are in terms of capital. This is the income you say you want after retirement (eg R20 000 a month before tax). You can't do it. Are you prepared to accept R10 000 a month?
If they are not, she outlines the options: to either scale down her clients' current and intended retirement lifestyle, or to take more risk in their portfolios.
Currie says she is sometimes forced to tell clients they will never be able to save enough money to maintain their lifestyle after retirement. In fact, they might have to keep on working, which means those who are forced by their companies to retire at 60 have to find another job - otherwise they will have to trim their expectations.
The greater your disposable income (or surplus), the more risk you can take, the panellists agree. But, conversely, they also concur that if you do not have enough money saved, you may have to consider going into potentially higher-risk, higher-return investments.
Can I stomach a loss of capital, at times?
Hartmann says you have to consider whether you are the kind of investor who would panic in a market downturn and sell some of your investments - with your financial literacy playing a role to some extent. If short-term losses in your share portfolio are likely to give you sleepless nights, you are probably better off with less volatile investments, such as government bonds, guaranteed investments or cash. However, you have to accept, Hartmann says, that lower-risk investments generally mean lower returns.
Netto-Jonker says it is best to weigh up the likely returns from various investments in terms of inflation plus three or four percent - not in absolute terms, by saying this will deliver 20 percent growth. In the end, it is the client's decision whether to opt for the higher- or lower-risk investments. You have to explain to clients who opt for the higher-risk route that when there is a storm, they have to stay with the plan. And when there is a storm, it's important to issue a gale warning' to clients so they're not alarmed, she says.
Currie also describes a gale warning as reassuring the client he hasn't lost anything in a market downturn until, or unless, he actually sells.
What are my other assets and liabilities?
There is a slight divergence of opinion among the panellists about debt. Van der Walt says you should ideally have cleared all your debts - including having your house paid off - by the time you are 50 or 51, giving you at least 10 years to save for retirement. By that stage, you should hopefully have some other savings, too - at least your company retirement fund.
Currie believes, on the other hand, that people put too much emphasis on paying off their houses, leaving themselves with no retirement capital. Don't put all your money in assets that won't be able to generate income for you, she says.
A lot of clients have put almost all their savings into their houses on the principle0that it is best to pay off your bond first - perhaps prompted by the period when interest rates soared to unmanageable levels. But if you have all your savings in your house, you are going to have to sell it in retirement and reinvest the money elsewhere, and moving can be very traumatic when you are old. Certainly, you should own your own property, but you must not neglect other funding like having a pension or retirement annuity. You must ensure you have some cash and some bonds - in other words, that you have a balanced portfolio of investments, Currie says.
What products best suit my particular needs and preferences?
Do you need life insurance, unit trusts, guaranteed investments, a 20-year endowment, inflation-linked bonds or index-linked investments? You certainly need an expert to steer you through about 300 possible choices, since retirement saving is not just about guarantees and annuities.
Van der Walt does not recommend that you invest in long-term contractual savings products (such as a 20-year pure endowment policy), because you should try to limit your costs as much as possible and maintain flexibility. The costs of financial insurance products are linked to the specified term.
He recommends investing in more secure products, including guaranteed products, as you get closer to retirement, and that includes traditional annuities at retirement, where you are guaranteed a specific income for a certain number of years.
Currie agrees that you should buy guaranteed products but only when you need them, because guarantees come at a price. But she is more in favour than Van der Walt of holding at least some of your money at retirement in a living annuity. She favours living annuities for their flexibility, compared to a traditional annuity, because the rate of return set when you buy a traditional annuity may look very unattractive in later years if inflation rises.
None of the panellists recommend holding the bulk of your investments in foreign assets. Van der Walt says it is all too easy to get your choice of currency and product wrong.
Currie says if your retirement will be spent in South Africa, you should hold your investments in rands and only put a portion of your money offshore, if you have a commitment such as sending a child to a foreign university or to diversify your portfolio.
How often will my retirement savings risk profile change?
It will change constantly, at least as you get older, and with other events, too. Our panellists agree that you should re-visit your retirement savings plan at least once a year.
INVESTMENT TIPS
Eugene Hartmann, manager, Personal Financial Advice at Old Mutual, suggests that you ask yourself the following questions before investing in a financial product for retirement:
- Do you need risk cover or pure investment, or both?
- Can the product provide for other options, such as disability income or capital?
- Is the minimum premium affordable for you?
- Does the product have tax advantages or disadvantages?
- What is the liquidity of the investment - that is, how easily could you convert it into cash or use it as collateral for a loan?
- Does it offer any guarantees of capital or income?
- Is there a minimum term?
- Is it actively or passively managed? - because that could affect the costs.
- Does the product allow you to switch portfolios, and at what cost?
THE FPI EXPERTS
The Financial Planning Institute (FPI), formerly the Institute of Life and Pension Advisers, was formed in 1982 to improve the standard of financial advice. Members must pass stringent examinations and abide by a code of conduct, and the institute's Generally Accepted Planning Practice.
Catherine Currie
has a B.Compt from Unisa and did her articles at Price Waterhouse, where she worked for seven years. She worked in various capacities at Old Mutual before becoming a financial consultant in the Mint Private Financial Planning division. She sat the exam to become a Certified Financial Planner last year and was the top student in the financial planning environment paper.
Eugene Hartmann
has a BLC and LLB from the University of Pretoria and is a Certified Financial Planner. He worked as an attorney for a legal firm in Durban before joining Old Mutual nearly 10 years ago as a legal adviser. He is the manager of Personal Financial Advice at Old Mutual.
Debbie Netto-Jonker
is a Certified Financial Planner who recently won the FPI/Personal Finance/ipac Financial Planner of the Year Award. She has been a financial planner for 13 years and started out at Liberty Life in 1987 as a consultant and then became an independent broker. She is also a member of the Life Underwriters Association of SA and the Independent Brokers' Council.
Dr Philip van der Walt
has a B.Com from Potchefstroom University, a B.Proc and B.Com Honours from Unisa and a D.Com in insurance science. He has also completed a management programme and is a Certified Financial Planner. He progressed to regional manager for unit trusts at Sanlam in Johannesburg, before moving to the life insurance division and coming to Cape Town as compliance officer.
This article was first published in the
3rd Quarter 2001 edition of Personal Finance magazine See what's in our latest issue