Matt Phillips, Director of Wealth Planning at Canaccord Genuity Wealth Management, sets out key questions which will help those on the brink of retirement to navigate an inflationary environment.
Barely a day has gone by this year without inflation being top of the news agenda. Since it reared its head at the end of last year – it started to climb as demand outstripped supply following the COVID-19 pandemic and problems with supply chains prevailed – we have all witnessed the cost of a tank of petrol soar and the cost of our weekly shopping ratchet up. Inflation now stands at an eyewatering 9% and most experts expect it to reach 10%, even 11%, given current geopolitical events – the Ukraine war has caused serious disruption in the supply of oil and wheat.
The big question is how can we invest to get maximum pension returns despite persistent inflation – and what you can do to protect your pension pots from the damage inflation can inflict?
For those on the brink of retirement, it’s a real concern. Many people are genuinely considering if they can afford to retire yet. The big question is how can we invest to get maximum pension returns despite persistent inflation – and what you can do to protect your pension pots from the damage inflation can inflict? These are some key issues you should be considering if you’re approaching retirement:
What impact could inflation have on your retirement plans?
On average, a 65-year-old man retiring today is expected to live for a further 19 years, while a 65-year-old woman retiring today would be expected to live for 22 years. For those on a fixed retirement income, high inflation can be very damaging.
Given the high rate of inflation now and assuming in the years to come we will have periods of low and higher inflation, let’s assume an average of five percent a year for 22 years. If this were the average rate of inflation and if you have an annual fixed retirement income of £50,000, the effect would be to reduce this figure to marginally over £17,000 per annum.
Cash flow planning tools can help you to work out the impact inflation will have on your retirement plans, as they take into account your age, investments, income stream and tax position
This means that ensuring retirement income keeps pace with inflation – or preferably grows in “real” terms (i.e. factoring out the effect of inflation) – is of utmost importance. Cash flow planning tools can help you to work out the impact inflation will have on your retirement plans, as they take into account your age, investments, income stream and tax position.
What is your timeline to retirement?
To be frank, most people stick their head in the sand when it comes to retirement. Few people consider whether they have sufficient funds until around 18 months before they plan to stop work.
But everyone should have a much clearer idea and a comprehensive plan in place well before their desired retirement age. And to do that, they need a full understanding of their financial situation – it is the only way to identify any potential problems and figure out the solutions. The good news is that no matter how long you have left it, there is always the opportunity to improve your situation.
Would an annuity be beneficial?
A dwindling number of people have the luxury of a final salary pension – a guaranteed income from a pension that is fully indexed to keep pace with the rate of inflation – as they are now rarely offered by employers. Annuities (financial products that provide a guaranteed annual income for life) should always be considered as an option for retirees, but they are probably unsuitable in most cases. This is because annuity rates have fallen over a similar period to that of inflation, partly due to drops in interest rates and because we are living longer. As a result, purchasing a lifetime annuity with a pension lump sum is not typically an attractive proposition.
Annuities (financial products that provide a guaranteed annual income for life) should always be considered as an option for retirees, but they are probably unsuitable in most cases
However, there are two circumstances where annuities are worth considering. Firstly, those who could not withstand a potential fall in income in the future may have little choice but to purchase an annuity. Secondly, for those who are in less robust health, annuities may also be beneficial, as the rates paid out to policyholders may be high enough to warrant purchasing them.
Are you sitting on too much cash?
One of the best ways to protect against inflation in retirement is by investing in “real assets” i.e. an investment other than cash. Holding wealth in cash is not a great idea when inflation is high because its value is eroded in real terms. Interest rates are creeping up – Bank of England recently announced a 0.25% increase to 1.25% – but because inflation is running at 9%, the real value of cash is falling.
What is your attitude to risk?
Your risk appetite is key in the investment decisions you make. And it will influence the split of assets in your pension or investment portfolio – the percentage you will hold in equities (and within that, the different sectors or geographies), bonds, property or other alternative assets. The idea is that you – or your wealth manager – will need to ensure the income from your portfolio manages to keep pace with inflation.
The idea is that you – or your wealth manager – will need to ensure the income from your portfolio manages to keep pace with inflation
What about inheritance tax (IHT)?
Ordinarily, people might try to give away assets post retirement as a way of reducing their IHT liability. But with inflation eating into the value of your assets, striking the balance between leaving enough to live on comfortably and giving away enough to avoid incurring IHT is a consideration. Again, cash flow modelling can be a useful way of helping you find the right balance.
Could your home be a retirement asset?
On average, property values have risen well above inflation over the last 30 years. But many residents heading towards retirement might realise that although it’s one of their most valuable assets, it provides them with no income. Some people might downsize to free up some extra funds. But for those who would rather stay in the family home, they might consider a lifetime mortgage to assist with future cash flow.
On average, property values have risen well above inflation over the last 30 years. But many residents heading towards retirement might realise that although it’s one of their most valuable assets, it provides them with no income
So, with inflation causing pain for us all at the petrol pumps, at the supermarket and when out for dinner, give some thought to how it’s going to affect you in retirement. Putting the right plans in place, speaking to the right advisers – these are measures that will help you sail more comfortably through a post retirement world during times of high inflation.
Important information
The investment strategy and financial planning explanations of this piece are for informational purposes only, may represent only one view, and are not intended in any way as financial or investment advice. Any comment on specific securities should not be interpreted as investment research or advice, solicitation or recommendations to buy or sell a particular security.
We always advise consultation with a professional before making any investment and financial planning decisions.
Always remember that investing involves risk and the value of investments may fall as well as rise. Past performance should not be seen as a guarantee of future returns.
