Super funds have a relatively simple problem in accumulation. Everything about investing during this phase has a two-fold goal: generating the best possible returns, and amassing as much savings as possible for members.
While many funds realise that decumulation is a lot more complicated, T. Rowe Price global solutions portfolio manager Richard Coghlan said fiduciary investors are negotiating with as many as five dimensions in this phase. To gain additional performance on one factor, they need to convince their members to be ready to sacrifice benefits elsewhere.
Coghlan told the Fiduciary Investors Symposium that the five dimensions of decumulation are longevity risk hedge, unexpected balance depletion, liquidity of balance, volatility of payments, and level of payments.
“If you ask Jeff Bezos, Jeff Bezos will say, I want all of this. And guess what? He can have it, no problem,” Coghlan quipped.
“But there’s a large part of the super membership, and in the US, the 401(k) membership, where they want all of these but they can’t have it.”
The asset manager conducted a study of 2582 individuals aged between 40 and 85 who were enrolled in a DC plan, to understand their priorities in their retirement investments. The top three things these members wanted were maintaining their quality of life, not running out of money before they die, and for their savings to keep up with inflation.
There were also gender nuances: while women are more aware of longevity risk, men value the potential of growing their retirement savings and making use of tax advantages.
Coghlan said T. Rowe Price found a monetary value can be put on these trade-offs. For example, a member with US$100,000 balance is willing to give up 1.9 per cent of annual income every year for the 10 years after retirement, to extend the portfolio horizon from 10 to 15 years; or to give up 5.9 per cent of annual income for promise of “guaranteed” lifetime income.
“Don’t underestimate the value of the word ‘guarantee’…people really, really care about this,” Coghlan said.
“And what this means for portfolios is you can actually use this to guide people into buying some form of annuity. And in the US, deferred annuities are probably the way that we’re likely to go.
“So you can put monetary values on this and walk your clients or members, through the logic for how you come up with the solution in a way that might be tangible to them.”
View from a decumulation portfolio
State Super chief investment officer Charles Wu said for the fund’s members, the two priorities have proven to be the preservation of capital and the timing of payments.
Wu said a survey of State Super members “told us basically two things”.
“One, don’t lose money…and two, give me my money when I needed it,” he said.
State Super is one of the oldest super funds in Australia, started by the NSW Government in 1919 under the Superannuation Act. The fund is in 7 per cent annual outflow and is closed to new members. A significant portion of the State Super assets are under DB schemes and are mandated to be managed by TCorp, but there is also a DC component.
“When you have an old member demographic, very little money coming in, a lot of money going out, what does that mean?” he said.
“Internally, we refer that to as 20 per cent problem. So we have 7 per cent outflow every year, and we have 13 per cent…pegged to the members at the age of 70 and above.”
The most important principle for State Super is to keep returns compounding as long as possible. But it also wants to better position the portfolio to ensure member benefits are paid as they are due – this means getting a firm grip on liquidity needs.
“We consolidate the currency, we spread out the tenor, we spread out the contract, so then there’s no one liquidity event that’s going to hit us,” Wu said.
“We also hedge the book. Based on our modelling, if you choose the right monetisation strategy, the right attachment point, that on average adds about 20 basis points, and even more importantly, it avoids the situation where you are a forced seller in the down market.
“When you’re managing a decumulating portfolio, you’re always selling. There is no buying in your dictionary.”
