Risks Retirees Face Continued

In June, we addressed the three major risks retirees face - inflation, withdrawal rate and longevity.  This month we will discuss four additional risks that affect retirees.

June blog

Retirement Spending – In retirement, spending habits and needs will change. As discussed in the previous blog, medical expenses will increase for retirees, but there are offsets. For example, having your mortgage paid off or downsizing could offset some increases in medical costs. What retirees need to pay attention to is how they will replace the income that they are losing by retiring. The three pillars of retirement income include Social Security, pensions, and personal investments and retirement accounts like 401k/403b or an IRA.  A retiree needs to keep in mind that, for example, they don’t have $1mm to spend rather they have $1mm from which to create an income.

Market Volatility – During the Accumulation Phase (while working) market volatility is not as harmful to investors because it allows them to dollar-cost average into the stock market picking up more shares when stocks are on sale which lowers the average cost per share. That all changes in retirement. While in retirement (Distribution Phase), the opportunity to purchase additional shares is limited to tactical rebalancing. The challenge is that an investor will need to have the emotional fortitude to sell bonds and buy stocks just when things are at their worst.  Another means for reducing portfolio volatility is a greater allocation to bonds and/or income producing assets.

Savings - In retirement it is widely recommended to maintain 18 months to two years worth of savings in safe investments like CDs, money markets, and savings or checking accounts.  These assets can be drawn upon to fund spending during down markets rather than selling equity investments when they are temporarily depressed. At Von Holt Financial Advisors, we follow this rule in a slightly different way. For retirees in the Distribution Phase, we maintain several years worth of spending in low duration and high-quality bonds as a safety net with the added benefits of increased returns and regular income production.  Although the bonds have higher volatility, we actively monitor the portfolio so as to manage the additional risk. It is our opinion that it is worth the extra risk in order to capture the higher yields and income for a long-term investor. 

Solvency - Private pensions that are offered by companies have been decreasing rapidly over the last few decades so for most retirees their primary fixed source for retirement income will be Social Security.  As Social Security runs into funding issues personal investments and retirement accounts will be front and center for anyone that wants to have a financially secure retirement. With estimates that the Social Security Trust Fund will be depleted by 2034 retirees are expected to receive only 77% of their anticipated benefits after 2034.  As a result, personal investment and retirement accounts will account for a growing portion of a retirees income sources. This argues for starting to save for retirement earlier and saving a larger portion of your income to offset these other risks.