Separate assets and needs for pension portfolios

Superannuation funds need to develop default pension portfolios designed to deal with short-to-medium term volatility without upsetting their sustainability and prospects for long-term growth, according to a Rice Warner.

It said risk-averse people entering retirement and paranoid about investment losses placed about $5 billion into bank term deposits even though these only paid about 2.5 per cent and interest rates were predicted to stay low for the foreseeable future.

It said a default pension portfolio should meet two primary needs of retired members:

• Certainty of short and medium term cash flow to meet the pension payments which are required for current living expenses and financial contingencies; and
• Growth of their capital so future cash flow is sufficient to meet future expenditure needs, no matter how long the retirees live. In other words, the investment must provide inflation and longevity protection.

"They impose competing investment objectives that cannot be met through a traditional investment strategy," the analysis said.

VIEW ALL

View all

"Short-term income needs demand income from liquid assets that cannot provide sufficient growth to meet a portfolio's long-term objectives.

"Long-term protection against inflation and longevity demands investment in growth assets that have inherently volatile market prices; and asset values could be depressed when cash is needed."

Rice Warner said the optimal solution required a separation of needs and a separation of assets to meet those needs.

Rice Warner proposed a multi-bucketed approach solution as:

• Most of the retiree's superannuation assets are held in the account-based pension with investments allocated similarly to a traditional balanced portfolio, adapted to meet the needs of retirees; and
• The cash account receives the distributed investment earnings from the account-based pension to pay the pension to the retiree and to build-up a cash store for contingencies.

Rice Warner also suggested that super funds should use a bucketed approach but park 15 or 20 per cent of the member's benefit into a pooled arrangement for the later years of life as it would be difficult to predict how quickly a retiree should draw down on their capital.