We hoard against the bad times. We have only recently cleared out a cupboard of dried stuff that we bought in march 2020. We used the toilet paper eventually.
A GoCompare survey found that the 6th most common fear people admit to is the worry that the battery on their phones will run out and ruin their quality of life.
And we fear that the money we have put by for retirement will run out before we do. That’s the bit that George Osborne didn’t get when he read this headline back in 2013.
People grudgingly took the gamble that they would live longer and get VFM from their annuities but they hated handing over their savings for an income that looked inadequate and is now dwindling under inflation to “nugatory” (almost all compulsory annuities were bought without any increase).
The rabbit that came out of the hat
But there was a quick win around the (global) corner. It was a cheap win as it cost the Government nothing – it actually increased short term revenues and proved a crowd-pleaser, and in the euphoria nobody thought much about FORO.
Meanwhile in Australia
Osborne looked at Australia and saw a pension system that was working because no one was having to buy an annuity and famously he gave us freedom from annuities, freedom to spend our savings as we wanted.
But he did so at the very time that Australians were discovering FORO – the pervasive fear of money running out, impacting their quality of life. Rabbits have become a pest in Australia and Osborne’s rabbit has brought financial pestilence in its wake. That pestilence is largely down to FORO.
FORO is a very real issue in retirement, and its impacts are profound. AMP’s Financial Wellness research indicates that close to 50 per cent of Australians are concerned they don’t have enough money for retirement – it’s the most common fear experienced by retirees.
With their last pay cheque approaching, many face the unsettling realisation they will soon need to live off their retirement savings. It’s a challenge which alters attitudes and behaviours with finances, manifesting in two main ways.
Firstly, retirees become more conservative with how they invest their savings, resulting in reduced asset growth and income streams.
John Plender has remarked on this trend in the UK and other respected commentators are urging individuals to stay invested in “real assets”
“For savers and pensioners, this underlines the importance of avoiding bonds, and shifting to real assets and value equities which tend to outperform in inflationary times.”
— Mike Harrison (@HigherEdActuary) May 16, 2022
We know, for example, that retirees’ allocation to growth assets, such as shares, is typically up to 20% lower than those people still in the accumulation phase of super.
And sadly, we see large volumes of funds move into cash at retirement and immediately after market downturns. This self-defeating behaviour, which happened following the Global Financial Crisis and, more recently, after the COVID market shock, only serves to lock in market losses.
hmm…. equities, in a bear market, for people close to retirement?
— Fed Up Cassandra (@Frances_Coppola) May 16, 2022
Secondly, FORO reduces retiree spending. The Retirement Income Review shows that the majority of retirees draw only the minimum from their account-based pension. Large numbers of retirees have also decided to take-up the reduced minimum drawdowns put in place during COVID. Amid market downturns and ‘noise’, retirees bunker down and spend as little as they can, impacting their quality of life.
The root cause of retiree FORO is a lack of knowledge and understanding, not helped by the inherent complexity of retirement products. This product complexity adds to an already confronting situation for retirees, who will be getting their heads around the age pension, while contemplating other factors, including their life expectancy. This is why Australians who are fortunate to have access to a financial adviser are less likely to be suffering from FORO.
Regulatory reform which helps make advice more accessible to everyday Australians will be important. But for retirement product providers the challenge is two-fold – we need to develop more effective and simple solutions, and we need to do a better job of helping the wider community understand them.
For example, the concept of ‘pooling’, which will form the backbone of effective retirement products in the future, needs to become a more commonly accepted and understood term. Pooling has been used for hundreds of years, more recently in public pensions, corporate plans, insurance and communal retirement schemes, as the only efficient way to manage an individual’s risk of running out of money. Much like ‘compounding’ in the accumulation phase, pooling is almost magical in the way it generates value for retirees, allowing for less conservative investment and higher levels of income.
Another important retirement concept that requires wider appreciation is the 10-30-60 rule. Originally put forward by renowned US retirement expert Don Ezra in the late 1980s, the concept suggests that approximately 60 cents of every dollar spent in retirement should come from investment returns earned in retirement. That is, most of the money spent in retirement should be from funds retirees don’t have when they retire.
Product providers, working with advisers, have much work to do to help shift Australia’s widely-held FORO mindset to this way of thinking.
Encouragingly, change is afoot. With the Retirement Income Review and upcoming Retirement Income Covenant, industry, government and regulators are now working collectively to improve retirement outcomes for Australians. It’s an opportunity Britain can also seize.
What is happening in the UK today.
I’m pleased to see two policy initiatives in the UK which are responding to the issues of FORO.
Firstly the Treasury is looking to ease the rules governing solvency to allow annuities to invest in more productive capital. While this will weaken the guarantee of payment it will increase annuity rates and put our retirement money to better use.
Interesting piece about private pensions last week 👇🤔 pic.twitter.com/mb33oeZIBM
— L.Lewis (@lynnlewis771) May 16, 2022
Secondly, the DWP is initiating a review of “decumulation” which sounds like it could develop into something like the Australian Retirement Income Review, with the likely outcome the promotion of new ways of getting paid in retirement. I make no apology for wanting a new way of getting paid my pension pot! Like many of my contemporaries – I am over 60 and have savings but I’m afraid to spend them.
Show me a way of getting paid a lifetime income from my pot which offers me more than a level annuity and the option to lock in to guarantees in future and I would follow. I believe that a pooled investment and longevity solution is not only possible but available under current legislation. I have written about it on this blog.