At the ASFA conference in late November 2012, Rice Warner launched its Beyond Lifecycle approach to investing, which uses a default dual-portfolio to address both liquidity and growth risks. Investment Magazine asked these questions of the Rice Warner Actuaries founder and chief executive.

Lifecycle funds are now a familiar concept. Are you suggesting they are not succeeding in delivering as they should?

A badly-timed stock market pummelling is only one of the risks facing a superannuation fund member contemplating retirement. They must also ensure that they can maintain their income in real terms for as long as they live.

Volatility risk results in poor returns for those taking lump sums immediately after a fall in the market price of assets. It also shows up on member statements which are designed to look backwards rather than forward to retirement. Most providers appear to worry more about this risk than the others and this has led to the interest in lifecycle funds.

Unfortunately, these products only address the first of these risks – and they potentially increase the other two. More importantly, they assume all members are exactly the same, rather than addressing individual member needs.

Lifecycle funds and target date funds change asset allocation over time and converge on an agreed structure at the point of retirement or through retirement.

They are default funds which aim to provide some protection against volatility as members near retirement.

These funds are a compromise and do not address the twin risks of liquidity and longevity.

No single asset allocation can address these risks together, so we advocate separating benefits into two buckets – one for lump sums and pension drawdowns and the other for inflation and longevity protection.

What is beyond lifecycle?

The simplest approach uses two portfolios. One based on cash for liquidity and the other which is growth-oriented for inflation and longevity protection. A key benefit of this solution is that the default strategy can be easily adjusted for individual member needs. The fund can present one consistent approach to capture both disengaged and engaged members.

Where is lifecycle not delivering then?

Lifecycle funds reduce volatility and they can reduce sequencing risk (drawing lump sums while asset values are low). However, our modelling shows they do not usually provide a better retirement outcome than your average default balanced option.

How do you implement this approach with a super fund?

We segment membership into homogenous groups using age, gender and account balance as relevant factors. Using historical exit data, we can predict when members will retire and how much they will need as a lump sum. For each member, over the five years to retirement, we set a strategy to shift money into cash for liquidity purposes based on this information. We use algorithms which move more money when the fund is performing well. Members receive regular communications on the strategy and can tailor it if their own circumstances are different.

Have you modelled the outcomes?

The future cannot be predicted, but it is possible to determine the approach that has the greatest likelihood of success. Rice Warner has undertaken modelling that shows the probability of achieving a target income using three strategies: the Rice Warner Solution, a typical balanced option and a lifecycle option. We believe the Rice Warner solution has a higher likelihood of providing a target income over time. Critically, it also shows that there is little difference between a fixed balanced option and a lifecycle option.

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