The financial equivalent of a ship safe-load mark could help keep retirement plans afloat across market peaks and troughs, according to Tim Noonan, Russell Investments head of Capital Market Insights.
Addressing the Russell Investments NZ annual conference last week, the Seattle-based Noonan said while the number one fear of pre-retirees is running out of money in old age, few know the exact level of savings required to see them through life.
He said most people were “enumerate and imprecise” about finances, which left them prone to throwing long-term investment strategies overboard when market conditions deteriorated.
Nervous investors, unsure of their long-term funding adequacy, were therefore “easily unbalanced” by transient news, Noonan said.
And with retirees today facing down post-work lives of 20 years or more, they would have to sail through oceans of news and across several market cycles.
Over their lifetimes, most people would experience nine market cycles, Noonan said. But while no two cycles were identical, he said, the wave-like nature of financial markets has been persistent through history, which ideally allows people to invest “across market cycles, not in them”.
Noonan said investors needed something akin to the ‘Plimsoll line’, a mandatory safe-load level symbol painted on all commercial ships, to provide some assurance that their individual retirement plans were fit-for-voyage.
His solution – developed along with other Russell investment strategists in the US but not available in NZ – combines individual retail client metrics with institutional long-term asset-liability matching techniques to calculate a retirement ‘funded ratio’. Under Noonan’s model, a regularly updated ‘funded ratio’ would give individuals a clear picture of how their retirement plans were travelling in all market conditions and guide investment decisions.
The larger the ‘funded ratio’ surplus, the more risk investors could load into their retirement investment vehicles, he said.
According to Noonan, the strategy helps retirees hold course through tough markets – or change tack in a disciplined way.
Combined with expert financial advice, he said the ‘funded ratio’ approach helps investors overcome the ‘hyperbolic discount’ – or the preference people have for smaller payoffs sooner rather than larger returns in the more distant future.
“The magic of the ‘Plimsoll line’ is that it explodes the hyperbolic discount,” Noonan said. “Once you know your baseline, you can make more intelligent choices.”