How to ensure you have built an adequate nest egg
Knowing what your options are is quintessential
While investors are constantly reminded to take a long-term perspective when it comes to saving for retirement, the years leading up to retirement should become less about wealth creation and more about wealth protection — whether it be protection from volatility in the market, inflation risk, or just a bout of bad luck.
This is according to Nick Brummer, director at Investonline, who says that the effective management of investments during the “danger zone” years leading up to retirement is crucial to ensuring a financially secure retirement.
“Saving for retirement is about addressing the right risks at the right time. Younger investors, whose most pertinent risk will likely be related to whether they have enough scope for capital appreciation, are able to take on additional risk and should therefore be investing a large portion of their wealth into growth assets. This propensity for risk, however, should decrease in the years approaching retirement.
“This is because when you are younger, you are usually taking a very long-term investment view, particularly with regards to retirement, and should not be overly concerned about short-term volatility, as the majority of this is likely just noise. As you get older, however, the risk of wealth erosion increases and, as a result, your investment strategy should gradually shift from being ‘return-chasing’ towards being increasingly ‘wealthprotecting’ in nature,” he explains.
Another thing that Brummer says investors need to consider when nearing retirement is the management of their retirement fund proceeds. “As a member of a South African retirement annuity or pension fund, you are not allowed to take more than one-third of your proceeds as a cash lump sum (unless the fund value is less than R247 500), and must buy an annuity with the balance.
“While the option of a cash lump sum will confer certain tax advantages, in that the first R500 000 is tax-free, this will reduce the amount of retirement fund proceeds you have available to purchase an annuity — which can either be a guaranteed/life annuity or a living annuity.”
Brummer explains the basic differences between these two types of annuities.
“In the case of a guaranteed (singlelife) annuity, your insurer will pay a specified monthly pension for the rest of your life.
“The major drawback here is that your capital dies with you, and no money is passed onto your heirs. A living annuity, on the other hand, transfers the risk and responsibility of securing an adequate income for life onto your shoulders. In return, you have greater investment and income flexibility and the capital in your living annuity will pass to your nominated beneficiaries if you die.”
With regards to effectively managing your living annuity, Brummer says that using an appropriate retirement planning tool or consulting with a qualified financial advisor will ensure that an investor gets the solution most appropriate for them.
“Your living annuity can be invested into any top-performing unit trusts available on the Investonline platform, and we are able to assist you with selecting the best suite of unit trusts to ensure that they match your specific risk profile and individual needs.”
Upon reaching retirement, Brummer says that an investor’s risk profile will shift once more, with longevity risk taking centre stage.
“Protecting yourself against longevity risk — the risk of outliving your nest egg — will become the biggest risk you face in your retirement years. It is therefore essential that investors rebalance their portfolio annually to ensure their investment stays on track and possibly even consider delaying retirement by a few years.”
Brummer emphasises that one of the most important things that an investor can do to protect their nest egg as they near retirement is to ensure that they know what options are available to them.
Nick Brummer, Director at Investonline. Photo: Suzette Vorster