Decumulate & Downsize

Most of your investing life you and your adviser (if you have one) are focused on wealth accumulation. But, we tend to forget, eventually the whole idea of this long process of delayed gratification is to actually spend this money! That’s decumulation as opposed to wealth accumulation. This stage may also involve downsizing from larger homes to smaller ones or condos, moving to the country or otherwise simplifying your life and jettisoning possessions that may tie you down.

Doing it: 50% more income in Retirement

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By Mark Yamada and Ioulia Tretiakova

Special to the Financial Independence Hub

Nobel laureate William Sharpe described managing retirement assets as the “nastiest hardest problem in finance.” Living longer on a fixed pool of capital is only the start of a problem complicated by the myriad of possible personal and family needs and obligations that develop over a lifetime.

The need

Demographics are driving big change in the retirement market. Not only will Gen Y workers have fewer opportunities to save for retirement because of high predicted job turnover and reduced access to workplace pensions, but retiring baby boomers are being abandoned by the very industries created to serve them.

The pension, mutual fund and wealth management industries are direct responses to boomers joining the work force, but fewer retiring boomers meet the criteria for investment advisors who are compensated for growing assets. Retiree portfolios don’t get contributions and many are too small to qualify as brokerage minimums rise. Most mutual fund fees are too high for this cohort for whom costs are more important than ever before. The number of advisors is also shrinking, not only because of compensation and compliance pressures but also because advisors too are retiring.

Saving more, starting earlier and taking more risk are the accepted ways to improve retirement outcomes. Two or more of these options may no longer be available for retirees. A growing crisis in retirement savings is stretching an already extended social welfare system and new thinking is needed if disaster is to be averted.

Solutions not products

Our research motivation (Journal of Retirement and two Rotman International Journal of Pension Management papers) is a belief that investing can be improved to solve problems. The pension problem, for example, is best resolved by focusing on what workers really want, reliable replacement income in retirement rather than trying to pick the best performer every period. Consumers today want solutions. The investment industry is still about products.

Just as someone who only owns a hammer sees every problem as a nail, the industry has a singular focus on “maximizing returns.” This sounds good, but anyone using Google maps knows the fastest route to a destination is not necessarily the shortest. UPS routes deliveries to avoid turns against oncoming traffic to reduce accidents and delays waiting for gaps. Their drivers make 90% right hand turns and experience shorter delivery times, lower fuel consumption and operate smaller fleets. What if investment portfolios could similarly be routed more efficiently to correct destinations?

Autonomous portfolios

The self-driving automobile that protects passengers from immediate risks and routes itself to a predetermined destination provides a template for an autonomous portfolio.

Getting to a destination is a different strategy than going as fast as possible all the time. For starters, brakes and steering are needed not just an accelerator pedal. Maximizing returns, the investment industry’s primary approach, is about going fast. If your strategic asset mix is 65% stocks and 35% bonds, your advisor will periodically rebalance to this mix. If stocks go down, she will buy more stocks. This sounds like the right thing to do, and it is, if your investing time horizon is long enough to make back accelerating loses over the next market cycle; your portfolio is throwing money at a falling market after all. For an aging population in general and retiring baby boomers in particular, this is an increasingly risky and unpalatable proposition.

How we can do it

To protect portfolios we keep risks as constant as possible. When volatility rises, some risky assets, like stocks, are sold and less risky ones, like bonds, are added. When volatility falls, we add riskier assets. The critical effect is avoiding big losses. Statistically this is like card counting in the casino game of blackjack. When volatility is higher than average, the deck is stacked against the player. This means we expose portfolios primarily to markets that are favorable. It’s an unfair advantage but it’s legal! Continue Reading…

CPP Reality Check

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Repeat after me: The Canada Pension Plan will be there for me when I retire.

In fact, CPP is sustainable over the next 75 years according to the most recent report issued by Canada’s Chief Actuary. This projection assumes a modest 3.9 per cent annual real rate of return over that time.

The plan is operated at arms length from governments by the CPP Investment Board (CPPIB), whose sole mandate is to maximize long-term investment returns in the best interests of CPP contributors and beneficiaries.

Despite this assurance, I still see numerous comments on blogs and social media dismissing CPP as something doomed to fail.

“The feds are robbing the CPP fund to pay for infrastructure and massive debt loads.”

“I’m fairly certain there won’t be a CPP fund in 25 years when I’m ready to retire.”

“My retirement projections don’t include CPP, just in case . . . “

The media exacerbates the problem by reporting on the CPPIB’s quarterly earnings, which, most recently, slumped to 0.7 per cent thanks to a strong loonie dragging down its foreign investments. But to the CPPIB and its long-term investing mandate, a quarter isn’t measured in three months: it’s more like 25 years.

Don’t ignore CPP in your retirement projections

It’s a mistake to ignore CPP benefits in your retirement planning projections. While it won’t save your retirement, CPP is paying out on average $653 per month for new beneficiaries as of July, 2017. The maximum monthly payment amount [if taken at age 65] is $1,114.17.

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Should you take early CPP benefits or defer as long as possible?

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By Chris Nicola

Special to the Financial Independence Hub

One question that often comes up about Canada Pension Plan (CPP) benefits is whether to take it earlier or later. If you Google this, you’ll get different answers: some say take it early, others say take it later. It seems the experts don’t quite agree, so I wanted to do a thorough analysis myself.

Jim Yih explains that the break-even between taking CPP at 60 vs. 65 is at age 77. In other words, if I live past age 77 I’ll be better off my taking CPP at 65 rather than 60. Based on this he concludes that one should probably start taking CPP at 60, just to be sure. However, I’m still left wondering: “Am I more, or less, likely to live past age 77?”

Now, before I dive into the analysis, let me quickly explain how taking CPP earlier, or later, works. Assuming you will be age 60 after 2016, the CPP early and late withdrawal rules work like this:

  • If you take CPP before 65, you take a 7.2% penalty per year on your CPP payments (up to 36% at age 60)
  • For each year you wait after 65, you gain an 8.4% increase in your CPP payments (up to 42% at age 70)

On face value, 42% more does seem like a pretty compelling case for waiting, but, is it? The catch here is that, it will depend on how long you live. Will you live long enough to capitalize on the larger payments, if you wait to start taking CPP? The real question is: Are you, statistically speaking, going to receive more, or less, total CPP by waiting?

The hard working mathematicians at Statistics Canada have provided us with this handy table, which shows how long the average Canadian can expect to live until, given they have already reached a particular age. What I’m interested in, is what age the average person at age 60 can expect to live until.

Males maximize CPP at 68, women at 70

Currently, a man at age 60 can expect to live another 23 years (age 83), and a woman about 26 (age 86). As these are averages, they seem like reasonable numbers to use for our analysis, and age 60 is the earliest point at which we are able to consider taking CPP.

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Retired Money: How to boost retirement income by 50%

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PUR Investing’s Mark Yamada

My latest MoneySense Retired Money column looks at an academic paper written by two Canadian investment pros, which explains how retirees can boost retirement income by as much as 50%. You can find it by clicking on the highlighted headline here: How to boost your retirement income by 50%.

In the recent Fall issue of the Journal of Retirement, PUR Investing Inc. president and CEO Mark Yamada and colleague Ioulia Tretiakova, the firm’s director of quantitative strategies, published a paper titled “Autonomous Portfolio: A Decumulation Investment Strategy That Will Get You There.” Click here for a summary.

Yamada and Tretiakova observe that the combination of rising life expectancy, minuscule interest rates and declining availability of employer-sponsored Defined Benefit pension plans is making retirement an anxious proposition, especially for the Baby Boom generation that is even now starting to storm the barricades of Retirement: 10,000 Baby Boomers retire every day in the United States, and roughly 1,000 a day in Canada.

Little wonder that one study (Allianz 2010) found 61% of those aged between 45 and 75 were more afraid of running out of money than of dying! Sure, you can decide to work a little longer, which lets you save more and cuts down the years you’ll need to withdraw an income, but there’s a limit to how long you can work (or find willing employers or clients). Ultimately, health and time are not on your side!

The full article describes Yamada’s Decumulation Investment Strategy, which is designed to let retirees better manage both retirement income and the probability of ruin.

Dynamic Constant Risk & Spending Rules

Unfortunately, the investment industry relies on historical risk and return data to project future returns, somewhat like navigating a car by peering through its rear-view mirror. Yamada aims to keep portfolio risk constant by reducing portfolio risk when market volatility rises and to increase portfolio risk when volatility falls (hence the term DCR, which stands for Dynamic Constant Risk). Continue Reading…

CPP will be there for future generations, CPPIB head reassures Advocis

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CPPIB president and CEO Mark Machin

My latest Financial Post blog looks at the misplaced perception that the Canada Pension Plan (CPP) might not be there for future generations. Click on the headline to retrieve the full article: No reason to fear CPP’s stability, CEO Machin says, but people do it anyway.

Mark Machin is president and CEO of the Canada Pension Plan Investment Board (CPPIB.)  Speaking Tuesday to financial advisors attending Advocis Symposium 2017 in Toronto, he said “unlike virtually every other industrial country in the world,” Canada “has solved its national pension solvency issues.”

While you could argue that even America’s Social Security system is not solid for the next generation of American retirees,  the CPP is on a solid actuarial footing. Canada’s chief actuary says CPP is sustainable over 75 years, assuming a 3.9% real [after-inflation] rate of return: CPPIB’s 10-year annualized real rate of return is 5.3%.

Despite this, many Canadians — and perhaps some of their advisors — continue to profess their belief that the CPP won’t be around for them by the time they retire. 64% believe either that CPP will be out of money by the time they retire, or don’t know whether it will be there to pay them in retirement, Machin told Advocis.

Half of retirees greatly rely on CPP

However, in practice, Canadians tend to have more faith in the CPP than they claim: 42% of working-age Canadians expect to rely on the CPP when they retire (up from just 13% 15 years ago). In 2016, more than half of Canadians who are actually receiving CPP said they rely “to a great extent” upon it.

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