Stock market volatility can be unsettling for investors of all ages, however much they have invested and whatever their objectives may be.
However, the market fluctuations triggered by the coronavirus outbreak and its impact on the global economy have particular implications for investors taking income from their retirement pots.
There are two related concepts – or risks – at work in retirement investing.
‘Pound-cost averaging’ is the result of, when building up your pension pot, buying smaller amount of stocks at different times, perhaps regularly; rather than risking making a big investment only to find the market falls.
But when you’re withdrawing retirement income in a declining market, because the unit price of your investments falls, you have to cash in more of your pot to maintain the same level of income as before. This is known as ‘pound-cost ravaging’.
An associated peril is ‘sequencing risk’: this is the risk that a market downturn will happen at a particularly bad time in your drawdown cycle.
In a period of prolonged volatility, you may end up taking an unsustainably high amount of cash out of a pot that’s steadily dwindling.
When this downturn coincides with the beginning of your retirement, it’s when you’re most vulnerable because you are no longer working and you have all your retirement years yet to fund.
Mitigating their effects
The good news, however, is there are several ways to help minimise the impacts of these risks.
They include having a cash fund to draw down from in times of volatility, so that equity investments are allowed to fluctuate and potentially weather the storm. While this provides stability, however, any money held in cash will lose its value in real terms due to inflation.
Another option is to take only ‘natural income’ – such as dividends –rather than drawing from the capital. This will mean that what you have to spend is variable and will be less when markets are depressed.
You need to be flexible. You can have several income strategies. The art of managing market downturns in retirement is knowing exactly what to do and when – and that’s where financial advisers really earn their stripes.
If you’re worried about the effects of market volatility on your retirement income, or you want to understand more about making withdrawals during this period of uncertainty, just ask a financial adviser.
For any queries relating to the information contained, please contact a Financial Adviser at Blythswood Associates who would be happy to help.
The value of an investment with St. James's Place will be directly linked to the performance of funds you select and therefore go down as well as up. You may get back less than invested.