Don’t be your own worst enemy in retirement

By Darren Burns, Head of Business Development, Graviton

You’ve worked hard over the years to build your career, hopefully saving and investing for the day when you will no longer be paid an income by your employer, and you’re faced with your biggest life challenge to date: Retirement. The potentially perilous transition from a working career into retirement is generally the point at which most behavioural biases – both conscious and unconscious – can have a significant, and harmful, impact on your investments if not managed carefully. This is not the time to be your ‘own worst enemy’.

Many investors who haven’t paid enough attention to their retirement savings over the years, wake up on day one of their retirement to the realisation that the amount, or capital, that they have saved, is finite – and that that amount must last them for the remainder of their years, however long that may be.  Financial decisions at this point are often driven by fear, to the detriment of the investor. Coupled with this is the fact that the investor – or retiree now – suddenly has more free time on their hands.  Time to look at their investments, second guess their investment strategies daily, and most likely make incorrect, emotional decisions if they’re not being advised correctly.

Retirement planning starts a lot earlier than you think…

How much risk a retiree can afford to take in retirement will depend largely on the amount of capital they have accumulated over the years, and more importantly how it compares to their required sustainable income. A retiree drawing, for example, 4% of their capital as income will be less likely to make short-term, irrational, decisions – or pressure their adviser to make short-term decisions – that are not in their own best interests regarding preserving their capital. A retiree drawing a higher income percentage, say 10% of their capital, will start to see their capital depleting a lot sooner and at an increasing rate, and may become fearful and try to take on more, excess risk to grow their capital to keep up with the regular withdrawals.

The biggest challenge for this second retiree is accepting the need to draw down a lower income to ensure their capital lasts. A sustainable retirement income that lasts the course is more important than being able to replace your last salary on day one of your retirement – especially if this is achievable with a few behavioural adjustments, although often easier said than done.

This speaks to the fact that a successful retirement is heavily reliant on an investor’s pre-retirement behaviour. Adopting a savings mindset, rather than a spending mindset, throughout one’s working years is crucial.  Once retired, it’s too late. The earlier one adopts this mindset, the better the chance they will have of being an effective investor, and of having a successful retirement.

The importance of a financial adviser – your personal retirement coach

A long-term relationship with a financial adviser who understands the investor’s goals and fears can be invaluable – especially in the years leading up to retirement. An emotionally intelligent adviser who shows empathy towards their clients’ needs and especially, their fears, can prevent mistakes that may be irreversible. At that point, an adviser may help the investor shift to a post-retirement mindset and may also look at potentially, for example, de-risking their portfolio, if needed. In this case it is done so that any market volatility will have as little effect on the portfolio as possible, especially after retirement when the retiree is drawing an income from their investments.

Typical behavioural biases – the enemy within

The below are just some of the many biases that may affect investors saving for retirement, as well as those that have already retired. Not everyone displays all biases, and in some cases, there may be an overlap with an investor displaying two or three at the same time.

Investor biases in the lead-up to retirement:

• Overconfidence – This is the tendency for investors to overestimate their ability to make investment decisions, choose funds, or manage their emotions. Investors who display overconfidence may also be overly optimistic about their future income.
• Present bias – This bias can lead investors to focus on the here-and-now, or “instant gratification”, rather than on the longer term. Enjoying rewards in the present moment may see the investor missing out on the benefits of compounding.
• Anchoring – This refers to the tendency to rely on the first set of facts, or information, received, e.g. a retirement savings goal or age. Circumstances change and investors need to be open to adjusting their planning as and when their situation calls for it.
• Herding – Literally, following what others are doing, herding is particularly prevalent now with more information available online and on social media.

Biases that may become apparent after retirement:

• Loss aversion – Although loss aversion can apply at any stage in one’s investment journey, retirees do also need to take on a certain degree of risk – appropriate for their circumstances – to ensure their savings last. If there’s a strong loss aversion, they may choose safer investment options, but with lower returns.
• Regret aversion – Some retirement income decisions can’t be reversed, but that’s no excuse not to make an informed decision, together with an adviser. Another example could be a retiree who has enjoyed healthy returns during a time when the markets were performing well, but neglecting to align their portfolios when markets change.
• Recency bias – This bias sees investors give more relevance to a recent event – or market performance – rather than considering the full picture. Retirees have different needs, and their portfolios need to be structured accordingly. What was appropriate for their portfolios in the decade before retirement, may no longer be the most appropriate strategy if markets have changed.

Overcoming behavioural biases

There is no single solution, but education is always a good starting point. Investors would do well to read, learn and ask questions about their investment portfolio, and ensure they understand why their adviser is making the decisions that are being made, and what the likely outcome will be. A suitably qualified financial adviser can provide objective advice and help set up a long-term investment strategy to guide an investor through both the capital accumulation, and decumulation, phases.  Regular reviews need to be done – at least annually – but a plan should ideally only change if the investor’s personal circumstances have changed. Lastly, automating investments throughout the accumulation phase can help reduce any ‘interference’ on the part of the investor during periods of market volatility.

Many larger advice firms are making use of the services of a discretionary fund manager, or DFM, thereby freeing themselves up to spend more time with their clients and to take on the role of investment, or life, coach when needed. Investors get the best of both worlds – investment performance as well as someone to emotionally guide them through difficult decisions that may have long-lasting effects and to help them avoid being their own worst enemy.

Seeking professional advice and regularly reviewing one’s long-term investment strategy can go a long way towards mitigating some of these biases and ensuring a successful retirement.

Please speak to your financial adviser if you would like to find out more on this topic.

Disclaimer: Graviton Financial Partners (Pty) Ltd is an authorised financial services provider in terms of the Financial Advisory and Intermediary Services Act,2002. While every effort has been made to ensure the reasonableness and accuracy of the information  contained in this document (“the information”), the FSPs, their shareholders, subsidiaries, clients, agents, officers and employees do not make any  representations or warranties regarding the accuracy or suitability of the information and shall not be held responsible and disclaim all liability  for any loss, liability and damage whatsoever suffered as a result of or which may be attributable, directly or indirectly, to any use of or reliance  upon the information. The information in this document has been recorded and arrived at by Graviton Financial Partners (Pty) Ltd (FSP) Licence No. 4210 in good faith and from sources believed to be reliable, but no representation or warranty, expressed or implied, is made as to its accuracy, completeness or correctness. The information is provided for information purposes only and should not be construed as rendering investment advice to clients.