Workers spend decades saving for their retirement. To many who have diligently saved but not been actively engaged in managing their investments, they might well be shocked to discover their portfolios diminished at the worst possible time, thanks to the stock market falling in a recession.
More than half a million people will reach state pension age in 2020, according to insurer Legal & General. However, the pandemic and subsequent recession has left the retirement dreams of many people in tatters.
With stock markets falling substantially in recent months, those reaching retirement might find their savings pot is much smaller than expected. Even those who are still years away from retirement may feel like their plans have blown off course.
A report by investment firm Vanguard, seen by Telegraph Money, warned that those retiring in a recession could use up their entire pension pot within two decades. In this article, we look at how to recession-proof your pension pot.
Should I delay my retirement because of the recession?
About 1.5 million people aged over 50 now plan to delay their retirement because of the financial turmoil caused by Covid-19, according to Legal & General. The firm said that people expected to work for at least three more years until the economy improves.
Retiring can be daunting at the best of times, and a global pandemic doesn't make things any easier. But setting out a clear plan can lift a lot of that pressure.
Savers who want to protect their pension should consider spreading their investments across a wide range of assets such as shares and bonds to protect against significant downturns in specific areas, said Kirsty Wright, of insurer LV.
However, savers should not make any knee-jerk reactions. Rachel Winter of Killik & Co, an investment company, advised against changing the way savers are invested solely based on the announcement of a recession, particularly as the data used is already months out of date.
She also warned against holding too much of your pension in cash as the value of this money risks being unable to keep up with inflation. Ms Winter said retirees should make sure to have some investments that have inflation protection, which guarantee that savings rise at least in line with prices.
Ryan Hughes, of fund shop AJ Bell, said even those approaching retirement are still likely to have many years of investing in front of them. It is not always the best idea to take all risk off the table, even during a recession, he said.
For a healthy 65-year-old who has just retired, for instance, who is taking an income through drawing down on their portfolio, there is every chance they will live for decades – meaning they should have time to recover from any short-term dip in the value of their investments.
Mr Hughes said he recommended keeping two years’ worth of income in cash so it is protected from market fluctuations and the following three years of income invested in low income fixed interest bonds. The remainder can be invested in shares to try to generate longer term growth.
If you want to remove all risk entirely, you could buy an annuity. The upside is you get guaranteed income for life, with inflation protection if you wished. The downside is that the contracts are inflexible, can die with you unless you choose to cover a partner, and today's rates are incredible low (see table, below).
What if I’ve just retired?
There are several strategies that can work for retirees who have saved up a sizable nest egg. Savers can access "defined contribution" pensions from the age of 55, making one or many ad hoc withdrawals, and take 25pc of their pension tax free.
Anything on top will be taxed as income like any other. From there, pensioners can either enter drawdown, buy a guaranteed income with an annuity, leave the pot untouched or take it all out at once.
However, there are a few golden rules that become ever-important during an economic downturn, according to Kate Smith, of pension provider Aegon. It is key to never draw out more money than is needed, she said. During the recession, those who are already in drawdown should use cash savings where possible and minimise their withdrawals, she warned.
By withdrawing cash from investment funds when they are at lower levels, savers are compounding losses that could have been recovered simply by staying invested and waiting for markets to rise. Taking money out during downturns disproportionately reduces the overall pot size and could quickly erode savings.
Large withdrawals may be off the table unless strictly necessary, but that does not mean taking an annuity is a better route either.
Buying an annuity does remove any investment risk from retirement, which may be appealing in uncertain times. However, once the decision is made pensioners are then locked in for the rest of their life.
Even so, deciding between annuities and drawdown is not an “either, or” decision, it is possible to secure some income through an annuity to cover the basics and using drawdown on top to increase the flexibility and possibility of leaving some funds to beneficiaries on death.
Should I go it alone?
Self-invested personal pensions, Sipps, have risen in popularity in recent years as they allow savers to take control of their own destiny and invest their cash in markets they expect to perform well.
Consumers should regularly check how their holdings are performing, and make changes to ensure their cash is growing in a fast and sustainable manner.
While workplace pensions often have reduced options for investment, as well as "default funds" for those that do not want to make investment decisions, a Sipp offers the widest range of investment options. Be sure you are comfortable actively managing your own money before opening a Sipp.
What are good investment options for pensions? The Troy Trojan fund is an industry favourite, named by both Mr Hughes and Ms Winter for its reliability and its capital preservation strategy. Mr Hughes, of AJ Bell, said those looking to invest their pension savings into funds should look out for ones that invest in quality businesses that generate yields but do not take too much risk. He tipped the Evenlode Income fund.
Meanwhile, those looking for protection against inflation should look to the CG Absolute Return fund, which invests across the spectrum of government and corporate bonds, shares and other funds, according to Ms Winter.
Given the huge sums held in pensions in Britain, this makes retirement savings a common target for scammers. In some cases, retirees have been persuaded to transfer their “gold-plated” final salary pensions into highly risky schemes which have cost them their life savings.
Scammers take huge commissions when savers transfer their cash into these rogue schemes, which have included bogus property developments and forestry projects in South America. They promise to deliver huge returns but retirees have no protection when these projects fail.
Action Fraud, the police's fraud prevention service, said that more than £5m has been lost to pension fraud since February. With many people at home for months during the coronavirus lockdown, scammers doubled down on their attempts to steal cash from innocent people.
To avoid being caught out, at a minimum consumers should check that companies are approved by the City watchdog, the Financial Conduct Authority. Barring cases of severe ill health, pensions can normally only be accessed after the holder reaches 55. Firms stating that they can unlock cash before this age are likely to be scammers.
As the old adage goes, if something seems too good to be true, it probably is. This applies to pension opportunities which seem to offer high returns for little or no risk. Consumers who are concerned about whether their pension adviser is legitimate can talk to the Government-backed Pension Wise for further information.
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