Three Retirement risks and how to navigate them - Cromwell Funds Management
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December 7, 2022

Three Retirement risks and how to navigate them

Peta Tilse


While there has never been a better time to be alive, it has, admittedly, been easy to overlook this notion over the past few years. The truth is that we live in an era of unparalleled economic, social, and technological advancements – all of which continue to develop at an exponential rate – and opportunities still certainly exist, despite the current trying times.

Over the past 36 months, a raft of economic factors arising as a result of the COVID-19 pandemic, severe supply chain disruptions, and the war in Ukraine – as well as other macroeconomic variables – have brought unprecedented challenges to communities across the globe.

Consequently, more than 20% of Australians now believe they won’t achieve their desired retirement standard of living, and half of those who are currently working admit they are unsure as to how much they will have, or need, when they retire. Some of the risks facing Australians who are nearing, or who are in, retirement are outlined below – as well as several ways to mitigate each of these.


The risks

The 2022 Natixis Global Retirement Index (GRI), now in its tenth year, is a multifaceted research tool that examines the factors driving retirement security. The 2022 GRI identifies three key risks for those who are nearing, or are in, retirement – inflation, interest rates, and longevity risk.

1. Inflation
If you were unaware of what inflation was prior to 2022, you undoubtedly know what it is now! Simply put, inflation refers to the average price increases over a given period, typically a year.


The measure of inflation and deflation – the consumer price index (CPI) – rose 1.8% across the September 2022 quarter, and 7.3% annually; this marks the highest annual CPI increase since 1990. Further, the 9.6% annual increase in the price of goods was the highest since 1983. The price of non-discretionary goods and services increased 8.4%, with discretionary goods rising 5.5%. Inflation can be particularly detrimental to those in retirement, as it not only chips away at savings and investment returns, but it does so to those with limited recourse to recoup that lost purchasing power.


The Reserve Bank of Australia (RBA) maintains that the optimal target for monetary policy is to achieve an average inflation rate of 2% to 3% over time. However, even when inflation sits within the RBA’s target range, it can still be detrimental to savings over the long-term, as demonstrated in the figure 1.


Inflation impacts everyone, not simply those nearing or in retirement. In early-2022, Cromwell provided an inflationary state of play and outlook, and outlined ways commercial real estate can hedge against inflation.


2. Interest rates
It’s well publicised that Australia has just experienced two years of historically low interest rates.

Arguably, no Australians are more acutely aware of interest rate fluctuations than those in retirement, as low rates have made it difficult for retirees to generate income from their savings.

Many retirees who were unable to wait for bonds to begin returning a sustainable yield were forced to dip into the principal of their nest egg. This practice puts these people in the difficult position of lowering income expectations, accepting their assets might run out early, or raising risk profiles in an attempt to reduce losses.

However, there is a light at the end of the tunnel. As inflation has spiked across the globe, central banks seek to enact monetary policy tools, including raising interest rates. In theory, inflation and interest rates are inversely correlated – when one is high, the other is low.

In Australia, the RBA has raised rates across the last six consecutive monthly interest rate decisions – from the historically low 0.10% in May to 2.60%, as at the October 2022 meeting, and have signalled future rate rises.

However, raising rates, even quickly, is not an instant fix for spiking inflation. The RBA’s forecast is for CPI inflation to sit around 7.75% across 2022, just over 4% over 2023 and around 3% in 2024. Retirees relying on fixed income investments are not quite out of the woods just yet, as nominal bond returns are unlikely to outpace inflation for positive real returns for some time.

3. Longevity risk
Medical, economic, and societal advances mean people are drastically outliving life expectancy estimates from this time last century. While longevity is unequivocally good news for individuals, living a longer, healthier life requires people to have more financial resources.

For example, if you are currently 65 years old, your life expectancy at birth was around 68 for males and 74 for females. However, due to significant social and medical advancements since the 1950s – when these estimates would have been made – healthy men and women in their 60s are now statistically expected to live for another two decades.

Longer lifespans mean many are faced with longevity risk, the occurrence whereby a retiree runs out of money because they have lived longer than expected. The challenge becomes maintaining a comfortable, desired retirement lifestyle, while ensuring you will have the means to do so for the rest of your life.


The good news

While the three risks outlined above are daunting, and not to be taken lightly, there are few better countries to approach these challenges than Australia. Australia ranked fifth in the GRI’s rankings for global retirement security, behind only Norway, Switzerland, Iceland, and Ireland.

Australia ranked eighth in the 2012 GRI – remaining consistent over the decade – before jumping from seventh in 2021 to fifth in 2022. Scoring consistently high in health, quality of life, material wellbeing, and finances in retirement year-on-year, Australia and its well-rounded approach to retirement arguably sets the standard in relation to the rest of the world.

Australia and its well-rounded approach to retirement arguably sets the standard in relation to the rest of the world.

Navigating the challenges

There are a number of ways investors can safeguard against the above risks and maintain their desired quality of life in retirement.

Make a plan
A November 2020 Australian Government report into retirement planning, saving, and attitudes found that many respondents were unprepared for life beyond work, with 68% of respondents admitting they had never considered how much they would need for retirement.

The majority (80%) of the remaining 32% of respondents who had estimated a retirement savings goal understood how much they needed to save per year to reach this goal, with 60% changing their behaviour after calculating how much they needed for retirement.

These statistics show the importance of making a plan. Understanding what is required to achieve your desired lifestyle in retirement will greatly assist in helping you putting together an accurate plan. There are countless resources available to assist you, including the Moneysmart retirement planner and Cromwell’s ‘Countdown to Retirement’.

Don’t underestimate the impact of inflation
It’s important to understand the impact of inflation on your purchasing power, and the way in which it can chip away at savings, as well as understanding its impact on your investment portfolio.

Inflation above anticipated levels is generally considered detrimental to stocks and fixed income investments; however, real assets, including real estate, land, precious metals, commodities, and natural resources tend to fare well in times of high inflation.

Income from real assets is generally linked to inflation. For example, it is common for commercial real estate leases to have annual rent increases tied directly to increases in inflation – this is why commercial property is regarded as an inflationary hedge.

Understand your investment income
Understanding your investment income is straightforward, but it is the most important factor throughout retirement. Not only should you understand your income sources, but it is important to set realistic expectations that will allow you to live comfortably.

Retirement casts a new light on investment opportunities, particularly relating to an investor’s risk profile and unfamiliar tax scenarios: it is important for investors to look beyond familiar investment options to diversify and spread their risk across multiple sectors, geographic regions, and asset classes. Without a regular source of income, retirees need to minimise their longevity risk by looking for investments that offer both returns and capital growth.

Don’t underestimate how long you will live
Consider this: The retirement age in Australia is generally understood to be 67 years old, which is when an individual qualifies to receive Government Age Pension benefits – the main source of income for most retirees.

However, according to the ABS, the average retirement age of all retirees as of May 2020 (the most recent information available) was 55.4 years, with 55% of people over 55 retired. By the time most individuals reach 65 years of age, they are now expected to live for another two decades. This means a person retiring at age 55 must stretch their finances for, on average, another 30 years.

It’s important to note this is merely an average, many will live far longer than two decades from their 65th birthday. Therefore, it is vital to overestimate your own life expectancy, rather than underestimate it.

Consider unforeseen expenses
With luck, unforeseen expenses can be kept to a minimum; however, it is important to factor these in, nonetheless. Whether these costs are associated with real estate maintenance or repairs, having to care for a loved one in a crisis, or looking after your own personal wellbeing, unforeseen costs can be significant and need to be a key consideration.

Former United States Secretary of Defense, Donald Rumsfeld, offered the following in a February 2002 news briefing:

“There are known knowns: There are the things we know. We also know there are known unknowns: That is to say we know there are some things we do not know. But there are also unknown unknowns: The ones we don’t know we don’t know.

… It is the latter category that tends to be the difficult ones.”

There are known knowns: There are the things we know. We also know there are known unknowns: That is to say we know there are some things we do not know.
Donald Rumsfeld – Former United States Secretary of Defense

This quote is apt with regard to navigating retirement risks. It is not possible to predict how long an individual will live or the exact level of savings required to maintain a desired quality of life in retirement. However, understanding as best as possible the ‘known unknowns’ and being prepared to weather the ‘unknown unknowns’ is the best method to ensuring a long and comfortable retirement.