I had a letter recently from the Trustees of one of my defined contribution occupational schemes. They told me they were going to change all of my carefully balanced investments in to funds of their choosing. They said they were doing it in the best interests of all members; a reason that gives little room for argument. It did set me thinking of the many pension risks we face; often not of our making.
Here is a list from the Pandora’s package of a pessimistic person’s pension problems.
There is an assumption that our pensions are safe but what about:
- The strength of the sponsor; as pensioners in Detroit have found – nothing is guaranteed
- Investment manager – more on this later; but what happens if our investment manager fails?
- Spouse risk; we assume that our spouse has made appropriate pension arrangements in the event of their death, but have they? What about divorce?
- State risk: some people rely on the state to provide a pension. Research has shown that there are a lot of European countries who will not (and in some cases currently cannot) be able to afford the state pension burden. If, it is going to be paid followed by when is it going to be paid followed by how much is going to be paid?
- What tax regime are we going to face on our future savings and on pensions in payment? In the US have we made use of the Roth rollover? In Europe, what are marginal rates of tax going to look like in the future given the deficits are likely to last for another twenty years?
- What limitations and regulations are going to be put in place now and in the future? In the UK the limits on pension savings change every few months. Are we going to face a savings limit; or like Australia a reduction in our state pension because we were prudent enough to save for our old age? We know this is on the agenda of the UK and other European governments.
- Are our pension’s savings going to be confiscated by the state at some stage, as we saw proposals to take savings from bank accounts in Greece recently? Do not think because it has not happened it will not happen in the future.
- For those countries that allow income drawdown; will those rights be curtained or removed thus driving the proverbial coach and horses through our pension planning.
- Regulatory risk; in order to protect pensions will regulators have to put such high hurdles in place that pension provision becomes impossibility expensive.
- What happens to our savings when QE ends and the bond bubble bursts?
- What happens if inflation takes off, as I consider very likely? Are our savings and our pension payments protected against massive price rises?
- Our country goes bankrupt! Not at all impossible in these volatile times.
- Annuity risks: are annuity risks going to crash even further (yes, probably). Meaning we have to save vastly more for the same level of pension.
- Research by Fidelity and others have shown that very few people are saving enough to meet a basic standard of living let alone meet their retirement aspirations
- Economic shocks for individuals such as unemployment, depression in the real level of wages, rising costs taking larger proportions of income are becoming the norm rather than the exception
- Annuity rates are falling and there is little sign on the horizon of increases. Forecasts based on old or historic annuity averages will underperform against the market reality
- Life expectancy; this is the good news bad news story. It is great that people are living longer. But, that also pushes annuity rates down even further. Someone (that is you) has to pay for all those extra years of pension
Where does one start?
- Do we invest conservatively to reduce volatility; but with a greatly reduced investment return or do we invest more aggressively and risk losing it all?
- Market timings – when do we buy and when do we sell; is our “lifestyle planning” going to mean our fund manager exists equities at exactly the wrong time?
- Hidden costs eroding our pension savings. De we actually know how much we are paying for all these advisors, fund managers, intermediaries, actuaries, professional trustees, pension lawyers, pension administrators and other assorted hangers on who seem to make a very good living out of our pension savings?
- Investment advice; should we be in bonds or equities, infrastructure or emerging markets debt? Even if we avoid the perils of active management do we know where we should be invested?
- Diversification risk, everything seems to be correlated with everything else when we look at investments. Are we over diversified or under diversified; should we be diversified? Are our fund managers over or under diversified
- Active vs. passive fund management? Should we hope that “our” fund manager can do better than the market over the long term (statistically very unlikely) or should we invest in the market indexes and perhaps lose out on juicy “one-off” investment opportunities?
- Vanilla or exotic investments. Should we invest just in main index stocks, or should we use derivatives to help hedge our exposure? Are Credit Default Swaps a good or a bad place to be; or both?
- Have we got good fund administrators?
- Are our pension records with our advisors correct and up to date? Does someone still hold the record for the pension I took out in 1984?
- Are our pension administrators undertaking the correct highly complex calculations correctly to ensure the correct final pension payment? Some years are indexed against one figure (In the UK, for example, against RPI) and in other years against another index (again, for example in the UK, CPI). Has inflation indexing, if we are that lucky, being calculated correctly.
- Would we ever know if any of the above does contain errors?
- Are the auditors of our pension scheme doing a good job for us?
- Are the pension lawyers looking after our best interests
- Have the pension trustees made the right investment and administrative decisions?
- Have the regulators got sufficient resources and expertise to ensure that pension scheme members are being treated fairly?
- Are the pension scheme communications easy enough to understand so we know the risks we are taking?
I could have gone on and on looking in my Pandora’s package but I have depressed myself enough already writing this. I am going to have a little lay down and a cup of tea.