Australians in or approaching retirement who are highly reliant on equities to generate returns have been heavily impacted by the recent increase in inflation and should consider varying their market-linked income to include guaranteed income streams, according to Challenger.
In a new white paper, “Protecting retirement income from inflation”, the investment management firm noted the impact of inflation for retirees needed to be considered differently than for those in accumulation phase who may be less concerned about longevity and sequencing risks.
“One of the challenges with managing inflation risk in retirement is that inflation risk has a different impact on a portfolio in the retirement phase,” the paper stated.
“It is not just that capital needs to regain its real value, but every income payment needs to keep its value to maintain the target lifestyle of the retiree.”
Challenger head of retirement income research Aaron Minney said the impact of inflation can be managed while working, but the ability to do that is limited in retirement even with long-term returns from equities.
“Cost-of-living spikes tend to be short term and that is manageable during the accumulation phase as there is time to recover,” Minney said.
“While equities have historically delivered a rate of return higher than inflation more than 70 per cent of the time, for positive returns this sometimes required a 16-year investment horizon.
“Retirees do not have this luxury, meaning they are at heightened risk to the impacts of inflation and need a hedge in their retirement portfolio that can protect the income.”
The paper said retirees using a market-linked income stream may go through an extended period of reduced lifestyle, but allocating a portion of capital to a guaranteed income stream can offset this downturn.
“Market-linked investments don’t necessarily protect an income stream from inflation over the short to medium term,” it said.
“Retirees who want to be able to maintain their lifestyle need the inflation protection that can be provided by a consumer price index-linked income stream.
“The age pension will deliver some of this for retirees, but those with a lifestyle goal above the age pension’s safety net will need an additional source of inflation-protected income.”
Minney pointed out Challenger’s most recent Retirement Happiness Index, which surveyed 1050 people aged over 60, found 65 per cent said the rising cost of living impacted their confidence that they would have enough money to retire and 72 per cent stated they would be happier if they had a guaranteed income.
“We, as an industry, have a responsibility to empower confidence to spend in retirement, provide assurance that income will keep pace with inflation and protect from the highs and lows of market-linked investments,” he said.
“There is a clear need for some form of professional financial advice, yet we found only one in five Australians over 60 are currently receiving it.
“Advisers have an important role to play in enabling safe spending, empowering retirement confidence and protecting income to last throughout their clients’ golden years.”
