Periodic insights from our Investment and Private Client Teams on a broad range of investment and advice-related topics
By Sarah Bull, Partner & Portfolio Manager
Retirement changes just about everything. You no longer have to go to the office every day, and you have free time to pursue your dreams, travel the world, or just spend more time with friends and family. Often, the clients I work with discover new value in their lives outside of working and spending and the day-to-day busyness of, well, business.
We all want our retirement to embody that kind of positive change, of course. Yet, to make our retirement dreams come true, we need to understand how retirement itself is changing – and how our financial planning must adapt as a result.
Let’s start with the basics. When you retire, your wealth management goals change. Now, the most important financial task is no longer to accumulate assets, but rather to sustainably generate income from assets. Basically, you become an “investor” rather than an “earner” – which can be a somewhat disorienting experience, especially for those who, like many of the high-net-worth women and men I work with, have spent much of their working lives as builders of wealth. In retirement, the challenge is two-fold. First and foremost, the challenge is to protect your wealth. In retirement, large drawdowns can be meaningfully impactful to your standard of living, and avoiding them should be your primary objective. The second challenge is to ensure the income it creates will meet your needs for the rest of your life.
Arguably, however, the realities of retirement – and the challenge of making your retirement savings last – are changing more dramatically than at any other period in recent memory.
One reason: Canadians are living longer than they used to. Thanks in large part to advances in medicine, public health, and quality of life, average life expectancy increased by 11 years between 1960 and 2020, to 82 years from 71 – and that’s after a drop of several months owing to the COVID-19 pandemic. The numbers are even more remarkable if you consider life expectancy at 65, the traditional if not exactly uniform retirement age. Today, a Canadian who makes it to 65 can expect to live to be 86, on average, and Canadian women can expect to live to an average age of 87.
If life expectancy trends continue, it’s entirely conceivable that a retirement of 25 or even 30 years will become the norm. That could put a strain on even the most substantial nest egg. And because we’re living longer on average, how we live and spend in retirement is changing, too. Fifty years ago, a high-net-worth individual might have planned for a few years of high spending after retirement and then left it at that. Today, however, our longer retirements mean our spending patterns are becoming more
Yes, there might be a few high-spending years immediately after retirement – travel, the purchase of a retirement home, and other discretionary expenses
tend to go up. But as people get into their 70s and 80s, spending tends to decline, often because health prohibits them from doing more. And then, near the end of life, spending rises once again as healthcare costs go up.
What does this mean for a retirement plan? Well, not only must assets last and generate income for a longer period, but they must also meet different income needs at different stages of retirement. Planning for that can become quite a complex undertaking.
The other massively impactful factor is more recent: the surge in inflation and the corresponding rise in interest rates in the wake of the pandemic. Interest rates are crucial to estimating future return on investment. Higher rates are generally good news for retirees because they drive higher income from assets like bonds, and borrowing costs tend to be lower in retirement anyway. On the other hand, inflation eats away at purchasing power as the cost of living goes up, with more income required to meet retirement goals.
The recent volatility in inflation and rates – and the big question of whether and for how long it will continue – make planning out a 25- or 30-year retirement all the more complicated. And if you were projecting your retirement income based on the rates and inflation data that prevailed just a short time ago, chances are your plan is seriously out-of-date.
Here are some of the questions the changing realities of retirement should inspire you to consider:
Do you have a firm idea of your likely discretionary and non-discretionary expenses?
You might plan to travel or some other indulgence when you retire, but have you taken into consideration what will happen when you reach an age where those discretionary activities are no longer feasible? And have you budgeted for the high probability that you will incur greater nondiscretionary costs, like healthcare, as you age?
Is your asset mix designed for sustainable income in retirement?
Risk and return are considerations for any portfolio, and a traditional retirement portfolio is lower-risk and geared towards income generation. However, longer retirements provide an opportunity – and might present a need – for more emphasis on wealth accumulation, which may mean a different, more aggressive risk/return profile.
Have you allocated your retirement capital smartly?
Living off income from your assets – without unnecessarily dipping into your capital – presents a unique challenge not just in terms of duration, but also priority. Generally, you will want to ensure you have prioritized your capital allocations according to a hierarchy of needs. For instance:
- A certain portion of your assets should be available for emergencies, so it would make sense to allocate it to low- or no-risk instruments like cash or cash equivalents, which can generate interest income while still remaining extremely liquid.
- Next down the priority list are assets that cover essential expenses like housing and healthcare;
you might be able to take on some risk in this “pot” to generate return, but the emphasis should still be on safety.
- Third priority: non-essential expenses like travel and entertainment. Because these are nice-to-haves, you may take on more risk in this allocation to generate return, for instance through a balanced equity portfolio.
- Finally, there is the portion of your assets that will be your legacy, or social capital. Here, you might invest through high-growth (higher-risk) securities.
Do you have a complete picture of your retirement income?
Canada Pension Plan and, for some retirees, Old Age Security payments should be factored into the retirement income mix.
Should you take CPP early?
One question clients often ask is whether it makes sense to start taking CPP payments before age 65 (you can do so as early as 60), which reduces payments but potentially extends the time you can receive them. The answer? It depends – on your health, financial needs and a host of other factors that should be discussed with your wealth professional.
At KJ Harrison Investors, we strongly advocate a goals-based approach to retirement planning. It begins with a clear-eyed assessment of current assets, followed by identifying specific goals for retirement, and then lays out a strategy to achieve those goals. But it’s important to remember that retirement planning is a process. Any plan should be reviewed and revised with your wealth management professional on a regular basis, and today’s rapidly shifting aging trends and macroeconomic forces make doing so even more essential. So even if you already have a retirement plan in place, now would be an opportune time to revisit it.