It is undeniable that Canada is undergoing a profound demographic change. What happens when the largest generation in history retires? Ten million baby boomers have now begun entering retirement, and this trend will continue over the next 20 years.
According to the 2016 census, Canada saw its largest ever increase in the proportion of senior citizens, such that for the first time in history there are now more Canadians over 65 than under 15. The proportion of senior citizens was up 20 per cent while Canada’s overall population was up only five per cent.
Yet many working Canadians:
- do not know how much they will need in retirement;
- fear they may not have enough to retire;
- are concerned about outliving their nest egg;
- have not done any significant planning;
- do not have a written financial plan for generating sustainable cash flow in retirement.
Facing retirement, you should consider the following:
- Will my savings last as long as I live?
- Will they keep up with the rising cost of living?
- Can my investments endure poor or uncertain market conditions?
- Will my savings take care of me for life and meet my goals?
- How do I replace my “work” day with my “retirement” day?
Longevity risk. Canadians are living longer, and it is common to live 20, 30 or 40 years in retirement. The census reported that the fastest growing age demographic is centenarians (those living beyond age 100).
Although living longer is good news, it does pose some challenges. Within your investment plan you might designate a portion of your portfolio that will guarantee a regular stream of lifetime income, regardless of how investment markets perform, so that your plan does not succumb to longevity risk.
Inflation risk. This is the erosion of purchasing power over time as it increases the cost of goods and services. Also, it can erode the value of assets set aside to meet those costs. In the last 50 years, inflation eroded Canadian’s purchasing power by 90 per cent. You might designate a portion of your long-term portfolio to include investments that have the potential to outpace inflation, such as owning high-quality companies that pay dividends, and more specifically rising dividends, over time.
Market ‘sequence of returns’ risk. The sequence of stock market returns at retirement, when you begin drawing income from your portfolio, are critical to the sustainability of your portfolio. A portfolio experiencing poor market returns early in retirement – when income is being withdrawn – can run out of money faster. On the other hand, a portfolio experiencing strong early returns will provide sustainable income longer.
Asset allocation is the scientific mix of investment types in a portfolio with the intention to efficiently grow wealth over time and also protect a portfolio in times of market stress and sector rotation. In its most basic form, assets are allocated between some mixture of stocks, bonds and cash. As markets move between undervalued and expensive, an effective asset allocation plan rebalances the portfolio on an ongoing basis to reflect the nature of your intended allocation.
Studies have shown that asset allocation is responsible for over 90 per cent of a portfolio’s returns. This is especially true when you are still accumulating assets for retirement. Once you retire, ‘product’ allocation plays an important role in determining the success of your retirement plan.
Product allocation includes investments beyond the traditional stock and bond allocations, which may include products that offer guarantees, such as annuities, variable annuities and investment funds offering guarantees by way of principal protection and guaranteed lifetime income.
Excess withdrawal risk. How much you withdraw or spend from your savings on a regular basis will dramatically affect how long your savings will last. As studies have shown, withdrawal rates over four per cent to five per cent begin to increase the likelihood that you will run out of savings in your retired years.
It is critical to own high-quality investments that pay a regular cash flow into your portfolio (i.e. dividends, interest, rents, distributions, etc.). This provides a buffer so that you are not selling assets when markets decline in order to fund your lifestyle expenses.
Through a properly crafted financial plan, you can determine a prudent withdrawal rate in order to extend the life of your portfolio, and match your portfolio’s cash flow to your expenses.
Health-care expenses. While Canada’s health-care system provides coverage for basic medical needs, it doesn’t cover everything. There is some concern on the rising cost of health care, and Canadians may have to bear more of the burden of rising costs in the future. This is especially true as 10 million baby boomers transition to retirement over the next 20 years, placing a strain on the funding and sustainability of the public health-care system as we presently know it.
As best practice, you might want to include future health-care costs in your retirement planning. Extra savings and/or insurance may give you more choice and peace of mind. Include family members and loved ones in your discussions.
Demise of guaranteed pension plan. Years ago, Canadians could turn to guaranteed income from their company’s “defined benefit” pension plans for their retirement security. With this type of plan, employees were guaranteed income based on their earnings and the number of years they worked, with all the risk borne by the company.
As a result of the higher costs to maintain these programs, many companies have phased out these pension plans, shifting the onus - and the risk – for retirement savings onto the employee, in what are known as defined contribution plans and group RRSPs, which do not guarantee a predetermined amount of income in retirement. Instead, the retirement income depends on the performance of the investments, which the employee chooses.
Retirement is a major life destination, and one that demands attention. Canadians typically spend more time planning for a vacation than their future. The earlier your retirement planning is evaluated and addressed through a specific process, the greater your chances of success. By working with a qualified team of retirement experts, you can approach retirement with confidence and peace of mind.
Mike Magreehan is an investment and insurance advisor with Canaccord Genuity Wealth Management in Waterloo, Ont. Mike welcomes your comments and questions at 1.800.495.8071 or