I read with interest the rise in individuals managing their pension pots has increased from 5% to 30% since pension freedoms in 2015.
Should there be concerns or is this just down to the general public’s view on financial planning, we read almost every other day that self-managing pensions are the best option, why pay for professional advice?
Now, we have all attempted to do a bit of “do it yourself” some are better than others. I am afraid I am not one of those individuals, however, would I want to risk my retirement income without advice, it’s like switching from an expensive dentist to trying to fix your own teeth. In both cases getting it wrong is very painful!
The FCA published within its Retirement Outcome Review (ROR-May 2017) that “concerns were evident that pension savers could end up following an investment strategy that is not suitable”.
The topic of behavioural finance is an interesting area highlighting biases- certain influences could lead to predispositions such as over-or under-weighting considerations when making certain financial decisions, i.e.-, overly risky or very cautious therefore reducing complex decisions as a coping mechanism that avoids or limit emotional discomfort. Biases are therefore ingrained in our psyche, and in particular situations, an individual would always fall back on that bias, even though they might be financially literate and should know better.
Many published research papers point to financial literacy as a significant concern; An overconfident consumer might not realise the complexity of certain choices and decide to make decisions themselves, whereas an under-confident consumer would likely feel hesitant in making relatively easy choices.
So how do the General public with relatively no financial experience navigate a suitable path through the financial markets? Now let’s place their Defined Benefit pot into the mix-I will leave the merits of transferring for another discussion, assume they received advice and decide to self-manage their £500,000 fund.
So, what is the investment strategy?
Should they adopt, an Index based tracker -which index? Or have an Active approach, invest via Exchange traded fund, Investment Trusts, Property, Individual shares.
What about that share tip a friend gave, it’s a sure thing? As well as that phone call on a Guaranteed 12 pc per annum Esoteric overseas property investments, throw in some storage pods investment, truffle farming, how about Ostrich farming due to the rise of Mad cow disease and everyone is investing in that next big thing Bitcoin.
These may be extremes and seem downright lunacy in hindsight however as Warren Buffet said, “the rear-view mirror is clearer than the windshield”, people have invested close to £50M of their pension funds to their detriment in these types of schemes, devastating their retirement.
The decumulation path is not the same as the growth phase (Accumulation), traditional accumulation funds just do not cut it for retirement. It’s a different beast altogether you are trying to match your desired income to your needs throughout your lifetime, securing that income until your last breath.
Traditionally you purchased longevity insurance by excepting a scheme pension or by purchasing of an annuity; However, with pension freedoms, drawdown seems to be the go-to option nowadays.
Drawdown provides a great deal of flexibility for pension holders, – it does, however, bring many risks; Sequence risk, Inflation risk, Market risk, and Longevity risk. Members of Defined Benefit schemes have been sheltered from this throughout their career; – the answer is quite simple individuals just do not see the dangers on the horizon and having a live today focus.
Drawdown demands a different approach look at it similar to a DB scheme. You are looking for a liability-driven investment structure, i.e. matching the income to the individual’s needs; therefore, the risk may be minimised, why take additional risk when there is no need to so this is in line with the FCA thinking.
Financial planning is not about product sales but a holistic plan to help meet desired life goals, maintaining your income throughout life and avoiding the pitfalls as mentioned above. DIY for the novice it’s not for everyone, there will be consumers who manage their pots well, but the statistics are stacked against most.
Seek advice, in most cases its free for the first meeting, and you can then make a judgment if it’s appropriate to take it further, at least you will know if you are on the right track.