Retirement saving is a marathon, not a sprint
Pension saving has changed over the past few decades from a paternalistic, employer-led defined benefits regime to an individualistic, employee-bears-the-risk defined contributions regime.
Individuals now have to make decisions about where to invest, and how much, and when. While auto-enrolment has gone some way to getting millions of people invested into a pension scheme, the contribution rates will have to rise significantly if younger people now are to accumulate anywhere near as large a pot as people in the generations before.
This means people need to get more involved in understanding their pension options, learning more about the basics of investing and getting to grips with risk, reward, long-term thinking and proper financial planning.
Kevin LeGrand, president of the Pensions Management Institute, says: “It's certainly right to recognise that people need to become more involved in managing their own financial affairs.”
However, he adds: “Pensions are only one part of the equation. Pensions satisfy a unique requirement. In considering where they fit into the wider financial picture, that uniqueness must not be overlooked or traded away in favour of a simplified generic savings approach.”
For Mr LeGrand, this means people need to have a wider view of investing than merely sitting in an occupational pension scheme: they will need to understand all the various tax-incentivised savings options that are available to them and build up several pots across pensions, Isas, savings accounts and other investment products.
It's certainly right to recognise that people need to become more involved in managing their own financial affairs. - Kevin LeGrand
It also means having a long-term view when it comes to investing. Take the FTSE 100, for example. Over the past 30 years, despite the vast, underlying changes to its constituents, it has risen by 5262.57 basis points, from 2,249.3 on 11 June 1987 to 7,511.87 on 12 June 2017 – a nearly 350 per cent return.
Investing just £1,000 30 years ago into the stock market, regardless of the twists and turns in between, will have returned £3,500.
Back in 2010, the FT calculated that investing £100 into the early stock market would have seen investors earn £12,000, despite a series of wars, the Great Depression and intermittent market woes.
The sums are not staggering but the point is that over time, investments can grow and it pays to start early with a long-term horizon.
It also pays to be diversified. Adding fixed income to an equity portfolio can help to provide regular income streams, which when working together in a diversified portfolio could help to mitigate the risk of rising inflation (now at 2.7 per cent) eroding the spending power of that investment.
Having exposure to various asset classes and investment products, with a long-term investment horizon, will give clients that “wider view of investing” which Mr Le Grand has advocated.
The reason this is so important, according to financial advisory firm Tilney, is that young people today are under-estimating not just how long they can expect to live after retirement age, but also the amount of money they will need in retirement.
Data from the Office for National Statistics has revealed that in England, life expectancy at birth for boys has risen from 73.7 years in 1991 to 1993, to 79.5 years in 2012 to 2014.
This means a newborn baby boy in England in 2012 to 2014 can expect to live 5.9 years longer than a newborn baby boy in the same country over two decades ago.
The challenge of funding a financial secure retirement has become ever greater thanks to very significant improvements in life expectancy - Andy Cowan
Similarly, life expectancy for baby girls increased by 4.1 years, from 79.1 years in 1991 to 1993, to 83.2 years in 2012 to 2014.
People are living longer in retirement; indeed, some academic studies have claimed the first person to reach 150 years old may have already been born.
With this demographic change, are we investing enough now to meet the needs of retirement?
According to Tilney’s The Cost of Tomorrow report, published earlier this year, the answer is no. Earlier this year, its research showed the average UK household spends the equivalent of £503,000 in today’s money between the ages of 50 and 65.
This is more than 90 per cent of their total disposable household income, leaving just £50,800 to save or invest for the future.
Andy Cowan, head of financial planning at Tilney, comments: “There is a huge gulf between how much people expect to spend in retirement and how much they actually will, and this is before costs such as long-term care have been factored in.
“The challenge of funding a financially secure retirement has become ever greater thanks to very significant improvements in life expectancy.
“If we continue to see growth in average life spans, the costs of tomorrow are likely to be even greater than the data in our report suggests.”
Simoney Kyriakou is content plus editor for FTAdviser
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