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Building a nest egg
for your retirement is only one aspect of retirement planning; this may
well be the easy part. For many people, what is more difficult is
ensuring that those savings you have accumulated over the years,
actually last as long as you do. Indeed, perhaps one of the greatest
challenges to financial security is the transition from earning money
and accumulating assets to spending down those hard-earned assets over
what could end up being almost a third of your lifetime.

The risk of longevity

Over the last 50
years we have seen an extension of life expectancy all over the world;
this has huge implications for retirement planning. ‘Sixty is the new
forty’ and the generation approaching retirement age have to a large
extent redefined the traditional view of retirement; they are radically
reshaping societies views of how ‘older’ people are supposed to act.
From the traditional view of relaxation, leisure, and comfort, it is a
time for renewal, growth, new opportunities, self-fulfillment and
challenge. With medical advances, it is increasingly likely that
today’s healthy 60-year-olds may live well into their 80s or 90s.

Withdrawal risk

Withdrawal risk
keeps many retirees awake at night, as they must determine how much
they can realistically afford to draw down from personal savings and
investments without seriously depleting their capital. The rate at
which you withdraw money from your assets is one of the most important
factors affecting how long they will last.

Several studies
have been carried out using various portfolio compositions to see what
withdrawal rates would leave portfolios with positive values after say
20 years. Some of these scenarios assume 100 per cent cash, 100 per
cent bonds, 100 per cent stocks along with 25/75, 50/50 and 75/25
mixes. For years, financial advisers have presented the 4 per cent
rule, which is a rough guide for portfolio withdrawals in retirement.
The basic premise is that you withdraw a conservative 4 per cent to 5
per cent of your portfolio in the first year of retirement and then
every year afterwards you withdraw the amount you took out the previous
year with an inflation adjustment.

With the help of
simulations of thousands of possible investment and inflation
scenarios, observing decades of stock market returns, William Bengen, a
financial advisor and one of its leading proponents, concluded that a
retiree with a relatively balanced portfolio should draw down a
portfolio by 4 per cent or less per year. He felt that retirees who did
this had a better chance of making their retirement money last a
lifetime whilst those taking more than 5 per cent, increased the
chances of depleting their portfolios during their lifetime.

What’s a safe withdrawal amount?

It is virtually
impossible to give precise guidance as to how much you can afford to
spend from your savings in any given year; no simple solution exists
and investors’ withdrawal rates will vary from person to person and
according to the vagaries of the markets.

Many investors end
up withdrawing well over 10 per cent of their portfolio each year to
support the lifestyle they have become accustomed to. This can rapidly
deplete that portfolio. Others are very pessimistic and scared of the
prospect of being dependent on family in their later years and after
building a portfolio of Certificates of Deposit, Bonds and dividend
yielding stocks only withdraw interest and dividends and are too scared
ever to touch principal or liquidate stocks.

Clearly there is
some compelling research to support the “4 per cent rule” but in
reality there are many considerations to be taken into account
including, your age and health, the overall size and composition of
your retirement portfolio, your objectives, your spending pattern and
lifestyle, and the fluctuation of your investment returns, the impact
of inflation on your assets and cost of living. With the reality of the
extended bear markets, minimal annual stock market gains and sustained
high inflation, retirees must be cautious particularly where portfolios
are not well diversified and investments underperform for long periods
and interest rates remain low.

Seek professional help

Developing a plan
for this spending phase can be difficult, as obviously no one knows how
long he or she might live. It is worth seeking financial advice. A
professional will help you to plan with the timing that makes sense
given your overall goals and your own unique situation.

In the past the
conventional wisdom was to have begun to divest from stocks as one
approached retirement, and then migrate to bonds and cash as safer
guaranteed investments, stocks being volatile in the short term.
Nowadays you might be encouraged to continue to retain stocks and stock
mutual funds in your portfolio so that there is still the prospect of
long -term growth.

An investment
strategy that is too conservative can be just as dangerous as one that
is too aggressive, as it not only exposes your portfolio to the effects
of inflation but also limits the long-term upside potential that stock
market investments offer. On the other hand, being too aggressive can
mean assuming too much risk in volatile markets.

The artificial deadline that retirement appears to present is
becoming less practical and should not be what rigidly drives planning
decisions. What is thus required, is a strategy that seeks to keep the
growth potential for your investments without assuming too much risk.
After an ‘official’ retirement age of 60, there is a real possibility
that you may need 30 more years of retirement income and the ideal
should be to find a balance between growth and preservation.