Many people seem have to have lost big sums from their pensions recently because their pots were being derisked or ‘lifestyled’ before retirement, and they got hit in the bond market crash.
This is worrying me. How does lifestyling work, at what point will it start, and should I opt out and stay in the stock market not bonds, since I plan to keep my pension invested via income drawdown rather than buy an annuity in retirement?
I am in the default fund of a big workplace pension scheme so will lifestyling happen automatically, and what’s the best way to pre-empt it?
Will a simple request to the scheme plenty of time in advance work, or should I move out of the default fund because if I’ve made active investment choices they presumably then can’t be over-ridden at any time?
Planning ahead: Should I ‘lifestyle’ my pension to derisk it before retirement?
Tanya Jefferies, of This is Money, replies: When pension freedoms were introduced in 2015, most people started to keep their retirement funds invested instead of buying an annuity.
We cautioned at the time that savers planning to do this in future might want to avoid having their fund derisked, or what is known as ‘lifestyled’, into safer and lower-risk bonds in last 10 years or so before retirement.
This was the norm ahead of buying an annuity. But if you anticipated staying invested for the next 30 years, with the aim of achieving decent growth over that time, it was probably better to stick mainly or wholly with stock market investments when you reached retirement age.
The recent bond crash, plus volatile stock markets, have unfortunately left a lot of people in default pension funds that were lifestyled sitting on big losses.
Our pensions columnist Steve Webb replied last week to a reader aged 66 who has seen his last eight years of investment growth wiped out.
For anyone who has a big hole in their pension fund right now, we explain the main options if you are near retirement here.
Interest rate rises have hit bond investments but also meant that annuity rates have improved, so we look at whether it is worth giving them another chance here, and strategies where you combine buying an annuity and staying invested in retirement here.
Below, investing expert Laith Khalaf of AJ Bell, and workplace savings specialist Dan Smith from the large pension scheme provider Fidelity International, explain what investment changes are typically made to your pension fund in the run-up to retirement, and what you should consider before going along with them.
Laith Khalaf: More modern workplace pension default strategies have by and large moved away from lifestyling, though they will have some form of de-risking strategy
Laith Khalaf, head of investment analysis at AJ Bell, replies: Lifestyling used to be an extremely common way for pension default strategies to reduce risk for savers as they approached their retirement date.
The pension pot would gradually be moved out of equities and into bond funds, which move in the opposite direction to annuity rates.
The idea is that if annuity rates are falling, your bond fund will rise, so when you come to buy an annuity you should be able to secure a similar amount of income.
And if your fund falls in value, then annuity rates will be rising, thereby compensating you for the fall, again in terms of the retirement income you will receive.
This strategy worked quite well when 90 per cent of retiring pension savers bought an annuity, as they did until 2015, when the pension freedoms were introduced.
Now only around 10 per cent of people buy an annuity with their pension pot, with many choosing to continue to invest, like yourself, or simply drawing their money out as cash.
But many older pension plans are still automatically moving ahead with the lifestyling programmes that switch them into bonds, in the expectation they will buy an annuity.
This lifestyling programme will typically start five to ten years before your selected retirement date, and it will happen automatically, unless you give instructions to the contrary.
Lifestyling is likely to be prevalent in older workplace pension plans, but also in some older individual pensions too.
More modern workplace pension default strategies have by and large moved away from lifestyling, though they will have some form of de-risking strategy, which may or may not be appropriate for you, depending on what you are planning on doing with your pension at retirement.
So it’s a good idea to review your investment strategy as you approach retirement, no matter what kind of pension you have.
The best thing to do is check with your pension provider what its de-risking strategy is. If it’s lifestyling into bond funds, and you plan to buy an annuity, then you might well decide to stick with it.
But in your case, seeing as you are keeping your money invested and draw an income from it in retirement, it’s probably not a good idea.
If you’re going to step out of the default arrangement provided by your pension scheme, then you will need to make your own investment decisions, but then again, you will need to do this if you are investing your pension in retirement anyway.
If you feel uncomfortable doing this, you should consider seeking the services of a qualified financial adviser.
The process for changing your investments should be relatively straightforward, and involve simply giving an instruction to your pension provider.
If the investment range is too limited, or if the process for changing investments requires too much paperwork, you might consider moving to a more modern pension like a Sipp (Self-Invested Personal Pension), where you can invest in funds, shares and investment trusts, and will be able to place instructions online or via a mobile app.
Bringing all your pensions together in one place like this can help you keep on top of them.
However, do be careful if moving the money from your current workplace pension that it doesn’t affect the contributions your employer is still making.
And if you are transferring older pensions, just ensure there are no valuable guarantees attached to them before switching them across.
Dan Smith: Market volatility is an inevitable part of investing for the long-term
Dan Smith, head of workplace distribution at Fidelity International, replies: Market volatility can often feel daunting. And during uncertain times, some people may want to make rushed decisions about their pension, based on short-term circumstances.
Some may think about selling or moving investments in the hope of minimising any loss, but this could have significant long-term consequences for your financial wellbeing and retirement, as you may miss out on any market bounce-backs.
This is why, for many, it’s often safer and more practical to stay within their default investment strategy.
It’s also important to remember that market volatility is an inevitable and inherent part of investing for the long-term, and the earlier you are in your working life the longer you have to not only recover any losses but gain from recovery.
What is a default pension fund?
A default arrangement (also known as a default strategy) is the investment option that pension schemes use for members who do not want to make an active choice about where to invest.
It is also used by members who have reviewed all their options and decided they want to leave things in the hands of the experts.
Default arrangements usually place your money in investments which are exposed to risk but have the potential to grow your savings when you are far from retirement, such as stocks and shares, and then move some of your money to less risky investments as you approach retirement.
Defaults are designed to be suitable for as many people as possible.
While experts manage the investments, it is still a good idea to keep an eye on the money you have in a default arrangement, so you can be sure you are happy with how it is being looked after, and consider other decisions you may want to take – such as whether to increase the level of your contribution and your planned retirement date.
What is a ‘lifestyle’ strategy?
Lifestyle strategies are becoming increasingly dynamic, but put simply, they invest your pension into a fund that is carefully managed towards a target date.
Each fund will aim for higher growth when it is a long way from the target date, investing in higher-risk investments. Then, at a set number of years before its target, the fund will start to reduce the level of risk it takes on by gradually moving some of its assets into lower-risk investments.
Do you have to pursue a lifestyle strategy?
While there are numerous benefits to default lifestyle schemes, some people may wish to manage their pensions on their own.
If this is the case, they have the option to opt-out of their default strategy and instead ‘self-select’ their funds with their desired risk appetite.
If you are heading towards retirement, you should receive a letter in advance letting you know that you are moving to a lower-risk strategy – it may be at this point you wish to contact your pension provider and let them know if you would like to change your retirement age (or target date) to later, or opt out and manage the scheme on your own.
‘It’s important to remember that the value of the investments in your pension and any income from them can go down as well as up.
While it can be unnerving, it’s important to remember pensions are a long-term investment and volatility is a normal part of long-term investing.
So, think carefully and consider talking to an authorised financial adviser before making any decisions. And remember, withdrawals from a pension product aren’t normally possible until you reach age 55 (57 from April 2028).