SMSF advisers should steer clear of using deterministic models when assisting clients with retirement planning and managing risk, a technical expert has said.
Accurium SMSF technical services manager Melanie Dunn noted advisers should instead rely on more robust and holistic actuarial techniques, such as stochastic models, to assess clients’ retirement more effectively and allow for informed decision-making.
“The first thing we need to understand about any model of retirement is that they’re not going to predict the future,” Dunn said today during the Chartered Accountants Australia and New Zealand National SMSF Conference Online 2020.
“They are estimates, there are different levels of how good those estimates can be, but they are not predictions of the future.
“[We need to consider] does my model allow for the age pension, does my model allow for appropriate life expectancy estimates? Am I allowing for sequencing risks? All of these things can make a model more realistic and more robust.”
The fact real-world outcomes were not static and future outcomes were unknown was a particular downfall of relying on traditional deterministic models, she pointed out.
“When I say deterministic models, I mean ones that use fixed assumptions. Most models [easily accessible on the internet] will be a deterministic model. You might have a 4 per cent return assumption, 2 per cent inflation, 0.5 per cent fees – everything is fixed,” she said.
“But all you can really say about those types of models is we know that in real life I’m not going to get fixed returns into the future.”
Stochastic modelling, which allowed for greater complexity when assessing key uncertainties like longevity risk, was an effective technique that would enable more informed decision-making when assisting retirees, she said.
“[It] involves the analysis of a range of possible outcomes. It can include complex interactions like the age pension, correlations between factors over time and can be tailored to members’ individual objectives,” she noted.
In August, she said data from the Australian Government Actuary based on the last completed census indicated longevity risk was playing a greater part in retirement planning, emphasising the need for sound analysis before the use of these figures by advisers.