Moved from another thread to highlight the issue - Brendan
Logic dictates that riskier assets should offer higher expected returns, otherwise people will invest is less risky assets. Of course, market pricing is never perfect, so there will be variations around this central premise from time to time.
There was a reference in the "Cabinet Approves Auto-Enrolment" thread to pound cost averaging and how lifestyling is an extension of this principle. However, in today's pension environment, it is extremely unlikely that anyone will end up purchasing an annuity, so the idea of managing risk relative to a specific date in the future is not really valid. Pension fund investment nowadays should instead be regarded as a continuum consisting of a period of accumulation followed by a period of decumulation.
This is a gradual process and retirement, or from an investment perspective, switching from accumulation to decumulation does not, in my opinion, represent a significant step change that would justify a corresponding step change in investment strategy. It could be argued that it would be appropriate to aim to have 25% of the fund in relatively low risk assets in order to protect the tax free lump sum, but I see this as being fairly ineffective and relatively unnecessary for the following reasons.
It's ineffective because all you're doing is reducing the potential volatility in the tax free lump sum by 25%. It's not possible to split a pension fund into two parts, with one part earmarked for the lump sum and the other for continuing investment in an ARF or similar. Therefore, if you put 25% of the fund in cash and 75% in return seeking assets (presumably primarily equities) and there is a fall of 20% in these return seeking assets, your overall fund will have fallen by 15% and your tax free lump sum by the same percentage.
It's unnecessary unless you plan to spend most or all of your lump sum immediately on retirement e.g. to purchase a property or pay off a mortgage/other debts. Any balance you are not planning to use immediately will need to be invested and the way in which it should be invested is subject to the same basic issues as apply to the investment of your ARF, with maybe some adjustment for the different tax treatment of pension fund and non pension fund assets.
Which gets back to my earlier comment about pension fund investment being a continuum. My own view (and I accept that this is just a personal opinion) is that there should be some form of gradual derisking over time, with 100% or thereabouts in return seeking assets early on in the investment cycle (particularly as, at that stage, the bulk of your prospective pension fund will be derived from future contributions) and some switching to less 'risky' assets on a phased basis as you get older. In some cases, this might even lead to using some or all of your ARF assets to purchase an annuity if you reach an advanced age and are still in reasonably robust health.
Part of the above process would mean deciding on an appropriate investment strategy for the years immediately following your retirement and any lifestyling/de-risking in the years leading up your retirement should be based on this planned post retirement strategy.
I'd welcome people's thoughts on the above. As someone whose pension assets are mainly invested in an ARF, it is a subject that is quite close to my heart and I find myself constantly struggling to avoid the temptation to try to 'time' the market by making short term tactical changes in my investment strategy.
Logic dictates that riskier assets should offer higher expected returns, otherwise people will invest is less risky assets. Of course, market pricing is never perfect, so there will be variations around this central premise from time to time.
There was a reference in the "Cabinet Approves Auto-Enrolment" thread to pound cost averaging and how lifestyling is an extension of this principle. However, in today's pension environment, it is extremely unlikely that anyone will end up purchasing an annuity, so the idea of managing risk relative to a specific date in the future is not really valid. Pension fund investment nowadays should instead be regarded as a continuum consisting of a period of accumulation followed by a period of decumulation.
This is a gradual process and retirement, or from an investment perspective, switching from accumulation to decumulation does not, in my opinion, represent a significant step change that would justify a corresponding step change in investment strategy. It could be argued that it would be appropriate to aim to have 25% of the fund in relatively low risk assets in order to protect the tax free lump sum, but I see this as being fairly ineffective and relatively unnecessary for the following reasons.
It's ineffective because all you're doing is reducing the potential volatility in the tax free lump sum by 25%. It's not possible to split a pension fund into two parts, with one part earmarked for the lump sum and the other for continuing investment in an ARF or similar. Therefore, if you put 25% of the fund in cash and 75% in return seeking assets (presumably primarily equities) and there is a fall of 20% in these return seeking assets, your overall fund will have fallen by 15% and your tax free lump sum by the same percentage.
It's unnecessary unless you plan to spend most or all of your lump sum immediately on retirement e.g. to purchase a property or pay off a mortgage/other debts. Any balance you are not planning to use immediately will need to be invested and the way in which it should be invested is subject to the same basic issues as apply to the investment of your ARF, with maybe some adjustment for the different tax treatment of pension fund and non pension fund assets.
Which gets back to my earlier comment about pension fund investment being a continuum. My own view (and I accept that this is just a personal opinion) is that there should be some form of gradual derisking over time, with 100% or thereabouts in return seeking assets early on in the investment cycle (particularly as, at that stage, the bulk of your prospective pension fund will be derived from future contributions) and some switching to less 'risky' assets on a phased basis as you get older. In some cases, this might even lead to using some or all of your ARF assets to purchase an annuity if you reach an advanced age and are still in reasonably robust health.
Part of the above process would mean deciding on an appropriate investment strategy for the years immediately following your retirement and any lifestyling/de-risking in the years leading up your retirement should be based on this planned post retirement strategy.
I'd welcome people's thoughts on the above. As someone whose pension assets are mainly invested in an ARF, it is a subject that is quite close to my heart and I find myself constantly struggling to avoid the temptation to try to 'time' the market by making short term tactical changes in my investment strategy.
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