Providing income for retirement
Saving for retirement and drawing an income from the savings (capital and investments) after retirement are matters that investors are always concerned about. Years of first-hand experience have shown us that most people nearing retirement have not accumulated enough savings. Another matter that causes investors to feel anxious is the uncontrollable spiraling of costs, such as fuel, rates and taxes, electricity and medical expenses. Insufficient savings also mean that retirees have to withdraw a lower income from their capital.
Independent research, including the research done by the financial planning company acsis, shows that a retiree’s maximum initial draw-down rate should not be more than 4%. A draw-down rate of 4% on a capital investment of R1 000 000 translates into an income of R3 333,33 per month, assuming the following: that you are 65 years old, that your capital must last you for another 30 years and that you will increase your annual income to keep track of current inflation (not your own calculated inflation rate). Furthermore, your underlying investment portfolio must target a return of 4% above inflation. If your personal circumstances differ from the above analysis, you should make the necessary adjustments to suit your situation.
Perhaps you thought you could easily draw an income of 10% from an investment of R1 000 000, and you question the low draw-down rate of 4%. But remember that although the average return of the JSE has been inflation plus 7% over the long term, the returns fluctuate constantly. If the market is negative in the first few years of your retirement, and you draw a higher income, you will find it difficult to recover later. If you increase your draw-down rate in accordance with the inflation rate while the market is negative, you will exacerbate the situation.
Drawing an income of 4% of the capital value at the start will give you a confidence factor of 90%. This means that there is a 90% chance that your capital will last you until the age of 95, and that your income will escalate every year. If you start with a draw-down rate of 7,5%, your confidence factor declines to 60%. This means that your chances of achieving your target goal will be only 60%. This is too great a gamble.
A solution could be to draw down say 5% over your full retirement period. The upside of this strategy is that you will probably not run out of money and, assuming your investment portfolio has the correct underlying asset allocation (shares, property and cash), your income will increase over time. The downside of this strategy is that your income will decline when there is a decline in the market, and this could be unsettling.
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