14 Mar How to avoid planning paralysis & get on track
The latest Commonwealth Bank Retirement Ready Index, released on February 14 predicts that only 53% of Australian households are expected to be ready when the time comes to retire. The Index is quite broad in its assessment as it includes assets inside and outside of superannuation as well as the benefits provided by the age pension.
Apart from reflecting worrying deficiency in retirement readiness, what are these figures telling us? The survey doesn’t offer any interpretations to draw conclusions but reading between the lines one inference is inescapable: the importance of good planning. Based on the report, the Aussie approach of “she’ll be right mate!” is not going to cut it for many people fast approaching retirement.
In 1992 with the introduction of compulsory superannuation, much of the responsibility for retirement planning was passed onto the individual. Given the amount of time that has since passed, how is there is such a broad gap between those that are ready and those that are going to be in for a shock at retirement.
One of the reasons with regards to investment, and consistent with other aspects of life planning, is the concept of a “planning fallacy”. This concept was introduced by Nobel prize-winning author, Daniel Kahneman. In essence the phrase describes a propensity of humans to be too optimistic when thinking about the future.
The famously sited case referenced by Kahneman is the case of the Scottish parliament building which, when work began in 1997, was estimated to cost 40 million pounds to construct. However, by the time was completed, seven years later, the cost of the building blew out to be a massive 431 million!
The theory applies to many of our estimates for the future and the fallacy means that we just don’t plan adequately and therefore we are surprised at the end effect.
Looking at retirement, which of course is always many years from now until it’s not, we find that it is easy to fall victim to the same underestimation of our requirements. Many incorrectly expect that they will be able to “get by” in retirement on much less than they have today. However, the reality is that a number of costs are fixed and repetitive. As such we need to provision for an income of 60% to 75% of the income that we currently receive. Quite a considerable amount to save during of your working life!
One of the problems with planning our own retirement is that once we’ve made a decision or come up with what we think we need, we tend to stick to it without re-examining in detail. This becomes our ‘anchored bias’ and we are reluctant to move our expectations too much from this assessed outcome.
In order to avoid being stuck with our restricted planning view it is important to stop and seek an outsider’s view. Having an outsider review our assumptions and our final assessments can be extremely advantageous to our planning. This review role can be fulfilled by a financial adviser.
As well as working through your plans an adviser can assist you to understand your abilities to manage and take on risk with your investing. As we know, generally the greater the risk with our investments the greater the potential return (over the long term). In order to receive this greater return however, we must ride through market volatility. This volatility is a challenge for anybody when they come to investing and most people would prefer to take much less risk.
Many investors left to their own understanding, choose to take the ‘safer’ route. This in itself, rather than losing money on a market fall, can result in the retirement preparation gap, simply because, a safer approach almost guarantees a lower long term return. Essentially, by taking less risk, you are limiting the potential upside return because to remove volatility in returns you are excluding growth assets from your investments.
What an investor needs to do is to take an overall view that they have a longer time frame for retirement and accept the risks required to achieve a better outcome from investing. However, it is very important that the investor has a risk management strategy in place and looks to protect some of the downside risk of their investment with their approach.
With a view to what we can learn from the above, working with an adviser can help an individual prepare for their retirement by:
- determining their retirement needs and whether they are on track to achieve these;
- working out their tolerance in taking investment risk and work out the best approach to achieve their retirement requirements managing risk along the way;
- adjusting the strategy when life’s plans change; and
- managing your emotions as economic conditions and market returns vary over time.
Quite simply, having a second view of the world and an adviser working with you to coach you through the market up and downs and keeping you on track with your planning can be a great advantage for you as you strive to make you retirement goals!
If you would like someone to help you with your planning needs, or to cross-check a plan you’ve had in place for a while please complete our contact form and Chris Kelly, our Financial Adviser, will be in touch to help.
Please note this information is general advice only. Please seek advice before acting on any information in this article.