The Australian share market is booming, riding one of the longest bull runs in history, but retirees are still worried about the impact of a potential downturn.
According to Chant West, super funds are reporting five-year returns of up to 10% p.a. with 10-year returns of 6%-7% p.a., well ahead of fund targets. However, some of this reflects the low starting point. Back in mid-2008, we were in the middle of the GFC, with Lehman Brothers collapsing in September of that year. The Australian market (S&P/ASX200) was already more than 25% off its all-time high set in November 2007. It then dropped another 36% as the GFC wreaked further havoc in the first half of 2009.
With the impressive market returns in the last five years or so, the damaging impact of the GFC has faded in the minds of many. There are also younger investors who didn’t experience it first-hand. One group that hasn’t forgotten are Australians retirees, who fear the impact of another financial crisis on their lifestyles. A research report recently published by National Seniors Australia (NSA) and Challenger highlights that retirees still harbour concerns over share market downturns. 72% of Australian seniors are concerned about the potential occurrence of another GFC and the impact it would have on their retirement finances.
The stability of capital and inflation-adjusted income
This concern stems, in part, from retirees’ need for income. Regular income is their highest priority and many are prepared to trade off the amount of income they get in return for stability. 78% of retirees surveyed by the NSA prefer regular and stable income over less stable, but higher, returns. Nearly 80% want an income stream that will last for life, even if there is the potential for higher income elsewhere. A market downturn that puts their income at risk is a big concern.
Retirees draw their income from their savings, but most retirees realise that they have to eat some of their cake as well. So it is the price index that matters to them, not the accumulation indices that compound over decades. The S&P/ASX200 Price Index remains well below its peak in 2007 of 6,873, so it should be no surprise that retirees are still worried.
The ‘real’ value also matters. For each retiree dollar to recover the spending power it had at the 2007 market peak, the S&P/ASX200 would need to clear 8,600. That’s another 34% rise from current levels. I haven’t seen a predictions of the ASX index at this level any time soon, but no doubt it will get there eventually. Inflation matters to retirees because wages, which most no longer enjoy, have historically tended to rise broadly in line with rising prices. This trend has not been borne out in recent times for many wage earners.
The NSA report also notes that most retirees are not tolerant to losses (i.e. diminutions of their capital, whether or not actually realised). 23% claim that they cannot tolerate any 12-month loss on their retirement savings and only 25% would tolerate a loss as large as 10% or higher. Given that super funds fell in value by twice this amount in the GFC, retirees are worried about a potential repeat. One retiree in the survey summed it up this way:
“The main issue with the GFC for me was the reduction in my capital investments of approximately $30,000. Up until that point, I would be considered a medium risk investor, however following my loss, I changed to a low risk investor and transferred much of my capital into cash. The income from the cash stream is considerably less than a shares portfolio however I was not prepared to suffer another loss of that magnitude. My attitude has not changed to this day.”
Seeking a balance between secure income and growth
When 52% retirees worry that they will outlive their savings, we see evidence of hoarding, where fearful retirees underspend just to make sure they don’t run out of money.
The solution is not obvious to the typical retiree. Most retirees need exposure to some growth in their portfolio, but they also need regular and stable income. The retirement income products widely used in the super industry don’t meet both these needs and end up concentrating more on flexibility and liquidity at the expense of risk management.
Treasury’s retirement income covenant proposal is a step in the right direction. It will make sure that super funds are offering retirement products for their members that meet the needs that NSA, and others, highlight.
Lifetime annuity sales in Australia have been growing as retirees seek to secure some of their retirement income for life in the face of reduced access to the full age pension for many. In doing so, these retirees are being advised to allocate only a portion of their portfolio to a secure income stream with the remainder available to invest in growth assets. This provides the ability to balance flexibility and security for the retiree, while giving them the opportunity to spend more of their hard-earned savings. The Treasury proposal will make this more of a mainstream strategy, something that the large majority of retirees will benefit from.