The science for investing for retirement

Investing for decumulation is different to accumulation. Regular withdrawals mean that the path of investment returns is of huge importance in determining the end result. A dedicated retirement solution is critical and Guardian is just that. In this article we look in depth at the difficulties faced when investing for decumulation, why they matter and how Guardian aims to address the challenge.

Decumulation – why is it different?

Since Pensions Freedom, the question how to invest in decumulation has been much discussed. But an exuberant market has given investors an easier ride. What particular risks are involved that advisers need to be alert to?

The objective of an accumulation strategy is to maximise return at a set level of volatility and that challenge is easily met through an asset allocation strategy.

In decumulation, fixed, regular withdrawals mean the sequence of returns plays a big part in determining how long a pension pot will last. If markets fall, withdrawals have the effect of locking in losses. This can permanently impair the portfolio’s ability to survive the investor. Consequently, minimising downside risk is critical for decumulation strategies.

Reduce volatility?

What characteristics are required to reduce the downside risk of a portfolio? A common approach is to reduce volatility as clients reach retirement, through a “lifestyling” strategy. Is this always advisable?

In retirement, the withdrawal rate including fees is often above the long term total return of the portfolio. Lowering the riskiness of the portfolio will decrease likely return and so increase the likelihood the portfolio will run out before the client dies.

This is illustrated below using projections from leading actuaries Hymans Robertson. Hymans model 5000 potential paths of return that a portfolio could take based on its underlying asset allocation. This is the same technology as we offer advisers in our IMT retirement modelling tool. Here we see Risk Grade 3 and Risk Grade 6 portfolios of £100,000 handling a £5,000pa withdrawal. The graphic picks out the 10th worst, (10th percentile) up to the 10th best (90th percentile) at any point in time to illustrate the potential range of outcomes.


You can see that a portfolio of lower risk will have a tighter range of outcomes than the riskier. The worst 10 outcomes out of a 100 for a Risk Grade 3 survive longer than the worst 10 outcomes at Risk Grade 6. However, for every outcome better than the worst 10%, Hymans analysis suggests Risk Grade 6 could do better.
The important observation is that if you de-risk your portfolio, you are reducing the chance that your pot will survive 30 years or more. For Risk Grade 3 you can observe that only 25% of simulations last over 30 years but over half at Risk Grade 6. With longevity rising for wealthier clients, it is riskier to de-risk a portfolio in drawdown because the risk of the portfolio will not sustain the planned withdrawals over the client’s life time will increase.

How could Guardian help?

Guardian has a dual objective in its asset allocation. Accumulation portfolios are designed to optimise for one variable – maximised return for a set level of volatility. Guardian optimises for both maximum return and downside risk at each level of volatility. It aims to achieve a smoother path of returns. To achieve return you have to maintain volatility – the two are intrinsically linked – however the path followed to achieve return can vary greatly. In retirement the path required is one with smaller deviations from the mean level of return. Below is a graphic to illustrate this.

Portfolio A And B

Both Portfolio A and Portfolio B have the same return, and the same volatility. The paths they take to achieve this are however very different. It is the smoother path of Portfolio A that Guardian is aiming to follow.

How does Guardian look to achieve this?

Asset allocation is again the key. Guardian portfolios boast a larger allocation to ‘true’ defensive asset classes, such as Gilts, Index linked Gilts, Short Bonds and Cash. Equally there are diversifiers such as Absolute return and some Property, alongside Short Bonds and Cash, to offer protection when Fixed Income and Equities suffer negative returns simultaneously. The flip side of this is that an overweight to ‘true’ defensive asset classes allows for greater exposure to ‘growthy’ risk assets such as Small and Mid-Cap, Asia and Emerging Markets Equities.

Liquidity is topical given recent focus on PROD but is clearly even more important for a solution designed to sustain regular withdrawals. Therefore, Guardian limits its exposure to less liquid assets such as Property and High Yield Bonds.

Duration is a powerful tool at times of equity market stress, however duration converges towards becoming a risk factor in Risk Grades where equity allocation is low. Consequently, for lower risk portfolios duration has been reduced for added protection.

The result is a suite of portfolios which focus on letting the defensive assets defend and the growth assets grow.

Can we judge the ability of Guardian to improve outcomes?

The aim of the solution is to improve the survivability of an investment plan. In practice, the proof of this will take 30 years or more however there are key metrics which help us evaluate if the solution is on path to achieve this.

Using benchmark indices to simulate historic performance, we can stress test Guardian against our standard accumulation portfolios at the worst period of market stress in recent history. Below you can see that with a 5% pa withdrawal rate, taken monthly, a Guardian Risk Grade 5 portfolio would have retained a higher pot size than our Strategic Multi Option portfolios through the course of the Great Financial Crisis. While history rarely repeats itself, this is a good pointer to how Guardian could sustain good client outcomes.

Chart showing PIM Guardian performance November 2007 to November 2019
(The figures refer to the past and that past performance is not a reliable indicator of future results)


We can also look at the distribution of daily returns for the solution in practice over the last 6 months. Our aim is to create a distribution of returns that has fewer extreme outcomes, for that smoother journey. The statistical term for this is kurtosis. The lower the kurtosis value, the fewer and less extreme outliers are observed within the distribution of returns. Guardian Risk Grade 5, much favoured for drawdown, is achieving a lower kurtosis value than Parmenion Strategic Multi Option Active and Passive, which is exactly the distribution characteristic the solution is aiming to achieve.

Chart showing Parmenion Strategic Multi Option Active and Passive performance
(The figures refer to the past and that past performance is not a reliable indicator of future results)

Why recommend Guardian?

Guardian is Parmenion’s flagship drawdown solution, designed specifically for a client investing within a retirement context. In particular it aims to provide better outcomes for clients looking to take regular withdrawals from an investment pot for their retirement life time. The challenge of sequence risk to a portfolio in decumulation is addressed by focusing on the reduction of downside risk in addition to return maximisation, at each level of volatility. By achieving this we believe Guardian offers a core solution to augment any well designed Centralised Retirement Proposition.

This article is for financial professionals only. Any information contained within is of a general nature and should not be construed as a form of personal recommendation or financial advice. Nor is the information to be considered an offer or solicitation to deal in any financial instrument or to engage in any investment service or activity. Parmenion accepts no duty of care or liability for loss arising from any person acting, or refraining from acting, as a result of any information contained within this article. All investment carries risk. The value of investments, and the income from them, can go down as well as up and investors may get back less than they put in. Past performance is not a reliable indicator of future returns.  

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