While you will have been working on accumulating (building wealth) in preparation for your retirement, having a plan in place to decumulate your retirement wealth (spend your savings) when you retire is just as important. This could require a mental shift as well as a financial one, as the thought of spending rather than saving may feel alien at first.
However, without a robust plan in place, you run the risk of drawing down your money in a way that isn’t fit for your personal circumstances and goals, whether that’s travelling the world or leaving a financial legacy for your loved ones.
When you retire, you’re likely to be drawing wealth from invested assets such as your pension and Stocks and Shares ISAs. So, it’s important to ensure that you align your investment strategy with your retirement goals and be aware of market conditions as you’re entering retirement.
In particular, this approach could help you manage something called “sequencing risk”, which you’ll learn about here.
How to decumulate your retirement wealth – not understanding sequencing risk could damage your retirement portfolio
Volatile markets can have a significant effect on your investment portfolio, particularly as you start the process of decumulation.
Remember, your portfolio likely consists of a variety of financial assets within and outside of your pension, which could include:
- Stocks
- Bonds
- Property
- Cash and cash equivalents
- Other assets, such as commodities.
And, depending on your plans, you may start decumulating in one area while maintaining the assets in another.
For example, a plan to decumulate your retirement wealth could involve drawing from your workplace pension when you retire, while leaving your Stocks and Shares ISAs untouched for another decade or so. This is just one of countless ways you could map out your decumulation journey.
Staggering the decumulation process may help achieve greater financial balance, but it’s still important to consider sequencing risk.
This refers to the effects that timing can have on your investment returns. For example, if the markets experience a downturn, you may not have as much wealth available to you when it comes time to draw from your portfolio.
Consider the following illustration from Britannica as an example.
In the two instances below, assume you have a £1 million retirement portfolio and withdraw at an annual rate of 5%, or £50,000 each year.
- If you retired in a bear market (when markets are trending downwards) and your first two years saw a loss of 10.1% and 13% respectively, you’d have £687,927 left after withdrawing £100,000.
- If you retired in a bull market (when markets are trending upwards) and your portfolio saw returns of 19.4% and 12.8% respectively, your balance will have grown to £1.24 million, despite withdrawing £100,000.
While the calculations above may not be accurate to the penny, they demonstrate the effect that sequencing risk could have on your retirement funds. Here, having a robust decumulation strategy could help you mitigate these risks.
Understanding the factors that could affect your decumulation strategy can help you navigate sequencing risk
A strategy to decumulate your retirement wealth will ultimately depend on your circumstances and when you plan to retire, but there are several general considerations to keep in mind.
These could include:
Increased life expectancies
Your retirement savings may need to stretch further than before, as the House of Lords Library notes that life expectancies in the UK are on the rise. Here, having a well-balanced decumulation plan in place could mean you’re less likely to outlive your financial resources.
Market volatility
Markets will inevitably have their ups and downs, but seeking professional advice here could help you build a decumulation strategy that works for your circumstances. This aims to minimise the effects of market volatility on your finances, while working to protect your capital and maintain adequate returns.
The silent threat of inflation
A well-rounded decumulation strategy will account for inflation and help ensure that your retirement income maintains its real value, particularly as inflation can erode the spending power of your money.
For example, the Bank of England notes that a product or service worth £100 in 2015 would cost £138.42 in 2025. This is a result of inflation pushing the cost of goods and services up and simply means that your money is not worth the same amount each year.
Evolving spending needs
It’s unlikely that your spending patterns in retirement will remain static. For example, you may spend more in early retirement on leisure, with increased costs later in life for healthcare. A flexible strategy can help you adapt to these changing needs.
How to decumulate your retirement wealth – It’s important to develop a strong strategy for the decumulation phase
Tackling the decumulation phase requires a strategic and proactive approach, and there are several core factors to keep in mind. These include:
Diversifying your portfolio for stability
While diversification is always important, it’s even more vital in the lead up to retirement. This means spreading your investments across different asset classes, whether it’s a mix of stocks, bonds, and alternative investments.
You could consider more fixed income options and less aggressive strategies, balanced with some assets geared for growth to combat inflation.
This can help to reduce the risk your portfolio faces if markets perform poorly.
Remember, it’s always wise to take professional advice when rebalancing your portfolio.
Setting up a sustainable withdrawal strategy
Working out how much you can safely withdraw from your savings each year is key. You may be familiar with the “4% rule”, which means that you withdraw an initial 4% from your savings, then adjust annually for inflation.
However, this rule may not work for you, as it’s important to consider market conditions and your personal circumstances.
Here, seeking advice and considering your risk tolerance, life expectancy, and specific financial situation is essential.
Investigating buffer assets for down markets
One of the ways to combat sequencing risk is to hold a portion of your savings in less volatile assets such as cash or short-term bonds. These can serve as a buffer against market downturns and could allow your growth-oriented investments time to recover so you don’t need to sell them at a loss.
Remember, inflation can cause the value of your money to erode, so holding too much cash long-term may not be suitable for your portfolio.
However, having these buffers in place can provide peace of mind during market downturns.
How to decumulate your retirement wealth – secure your retirement future by seeking advice
Understanding and implementing a comprehensive decumulation strategy is key to ensuring your retirement savings last and that you have a consistent income throughout your golden years.
If you have questions about your decumulation strategy, whether you’re approaching retirement or have already begun, then get in touch.
To arrange an initial meeting with no obligation, please contact us at hello@rpgcc.co.uk or call 020 7870 9050 to speak to us. Or, you can visit our web chat in the bottom right corner, which we respond to personally during office hours. You can leave a message out of hours, and we will respond as soon as possible.
Remember, the RPGCC Financial Services team is always just a click or call away.
Please note
This article, how to decumulate your retirement wealth, is for general information only and does not constitute advice. The information is aimed at retail clients only.
All information is correct at the time of writing and is subject to change in the future. The Financial Conduct Authority does not regulate cashflow planning or tax planning..
A pension is a long-term investment not normally accessible until 55 (57 from April 2028). The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available.
The tax implications of pension withdrawals will be based on your individual circumstances. Thresholds, percentage rates, and tax legislation may change in subsequent Finance Acts. The value of your investments (and any income from them) can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.
Investments should be considered over the longer term and should fit in with your overall attitude to risk and financial circumstances.
