Withdrawal rate insight from IMT
For financial professionals only
What benefit is IMT?
The ‘so what?’ about Parmenion’s Income Manager Tool (IMT) system is that it provides an independent, actuarial analysis of a wide variety of retirement plans. These plans can be either ‘income to date’, sometimes called ‘burn down’ plans, or ‘income for life’ where the client wants to know with what certainty they can expect regular income based on the range of their potential longevity. As IMT bases its longevity calculations on Club Vita and not general population ONS data, these calculations are particularly valuable to advisers.
In practice, DC based retirement plans are highly personalised and tax driven, requiring the professional judgement of a financial adviser to have the last word on what’s suitable for each individual.
But where IMT is particularly strong is in revealing the limits where the ‘likely’ and the ‘possible’ lie. This is important when establishing a Centralised Retirement Proposition (CRP). You need to know the degree of certainty which different solutions or approaches can offer. And IMT can help by sharing that independent, actuarial view.
Income for Life
A good case study for this is setting tolerances for withdrawal rates when the objective is income for life. It’s that simple situation where a client has a pot of money and wants to know how confident they can be about taking what they need each year, and have income to cover the basics, rather than luxuries or discretionary spending.
A useful analysis
Using IMT to work out our numbers, we calculated the viability score for a series of withdrawal scenarios for clients of different ages needing income for life. Viability describes how confident you are that the income will be available for all your life. The withdrawal amounts are set by taking increasing % uplifts above the level of an escalating annuity rate at each successive age. Remember, this is drawdown for the basics, and we need income to keep up with inflation.
So, for example, at age 65, £100,000 would provide £3,195 a year of escalating annuity income. We can see that with a 15% uplift at £3,674, their likelihood of not running out of money is 78%. We have shaded out the scores below 75% viability as these are unlikely to be candidates in any strategy suitable for recommendation.
How certain am I of success?
Annuity: Single life, London postcode, no medical conditions, 3% escalation, no guarantee. Source: Sharing Pensions, December 2020. IMT: Male, average health, varying ages 60-75, Bath post code, Portfolio: PIM Strategic Passive RG6. Drawdown escalates with CPI. No adviser charge. Parmenion platform and portfolio costs included.
Don’t forget the upside
This analysis helps underscore several useful points in addition to being a great starting point for conversations around CRP.
First, we see that mortality credit – sharing of value between annuitants – makes the annuity a more interesting proposition as we get older, above all when the client’s requirement is for absolute certainty.
Second, the value of having a dynamic withdrawal policy. As we get older our longevity risk changes and our portfolio moves in value, with the sequence we experience of good and bad years, which we can’t predict. This means having a flexible approach in drawdown is supremely important.
Finally, we must not forget the upside. Although initiating drawdown strategies with a less than 75% chance of success is highly questionable, it pays to keep an eye on the stochastics. A strategy with a 50% chance of success would have a much higher pay out rate – and be successful half the time. When starting drawdown with a higher probability of success, say 75%, if returns come in a favourable sequence, we may see our available income rise considerably.
Very few would ever initiate drawdown for core income with a 50% chance of success. But starting (cautiously) above 75% viability, we are improving the odds of being able to increase drawings later on. This opportunity for higher income must always be remembered in the comparison of drawdown and annuity, balancing the need for certainty with an opportunity for upside, and retained flexibility. IMT can help put those potential income figures, calculated by actuaries, right at your fingertips.
“The above article is intended to be a topical commentary and should not be construed as financial advice from either the author or Parmenion Capital Partners LLP. If a client wishes to obtain financial advice as to whether an investment is suitable for their needs, they should consult an authorised Financial Adviser. Past performance is not an indicator of future returns.”
Any news and/or views expressed within this document are intended as general information only and should not be viewed as a form of personal recommendation. All investment carries risk and it is important you understand this. If you are in any doubt about whether an investment is suitable for you, please contact your financial adviser.