The impact on income sustainability is substantial but has Covid-19 brought adviser processes around drawdown advice into sharper focus?
Drawdown is and always has been a risky product. The FCA has continued to stress its concerns with the suitability of drawdown advice and this remains one of its key priorities in its business plan for 2020-21. However, it has perhaps taken the end of the longest bull run in history to underscore the very real and risky nature of this product.
In recent years, drawdown has increasingly become the default retirement recommendation partly due to its flexibility around both income payments and inheritance benefits but also as a consequence of ongoing poor annuity rates. There’s no doubt that staying invested during a rising market can deliver some short term benefits for drawdown clients but I dare say the market conditions we’ve experienced over the last quarter will not be the ride that many clients would have originally signed up for and indeed hoped for. So what learnings can we take from this period of turbulence?
Time to hit the re-set button?
This may be a good time to review and potentially re-set your drawdown advice processes. That doesn’t just mean where your drawdown clients are invested, it means your whole framework for providing retirement planning advice, your Centralised Retirement Proposition (CRP). This includes re-evaluating your processes for fact-finding, assessing your retirement clients’ risk appetite and capacity for loss as well as managing sequencing risk, income withdrawal rates, longevity and of course, income sustainability.
This period of market volatility has underlined a fresh impetus to the initial suitability assessment of drawdown. As an absolute minimum, this suitability should be reviewed at least annually. Most advisers will be reviewing clients in drawdown at least every six months, some might do this quarterly. The market outlook remains uncertain and by committing to regular reviews, you have more opportunity to advise small changes in order to ensure your client remains on track to meet their income requirements.
Some drawdown clients in higher-risk investments may never have felt the full magnitude of this level of market volatility before and may not have the capacity or inclination to tolerate future movements of this kind again. For some, significant reductions in investment sustainability scores may bring about a need to re-evaluate risk appetite and capacity for loss and this is where risk profiling and income modelling tools can support your client conversations.
Impact on income sustainability
Our quarterly update to our Drawdown Governance Service (DGS) has highlighted an overall decline in income sustainability scores for drawdown clients taking income. This is a direct consequence of both lower investment performance and lower asset return assumptions.
The full extent of income sustainability score drops largely depend on the level of risk that drawdown clients have been exposed to with their investments with impacts varying significantly as you’d expect from lower risk to higher risk investments. Clients in lower risk investment solutions have seen far smaller drops in income sustainability relative to those clients in higher risk investments.
It’s also clear that getting the income level right is key to sustainability scores. The value of the DGS is its ability to show the impact of not just current market conditions but also investment performance and actual client income levels on sustainability scores. This means advisers can responsibly adjust income levels to reflect the wider economic environment and ensure they maximise the likelihood of sustaining income throughout retirement or until annuity purchase.
Review your CRP
An effective and robust framework will mean you are better able to respond to market conditions and adjust income levels in order to enhance your clients’ long term retirement income plans and help preserve their value. If your processes aren’t as robust, and you have no formal mechanism in place to review your drawdown clients, now might be the time to review your overall CRP and advice processes.
Global economies are trying to safely navigate their way back to some form of new normality with countries around the world taking very different views on how best to do so. The pandemic has shown just how risky drawdown can be and the impact that market drops can have on clients’ sustainability if these risks aren’t managed efficiently. Whatever the outlook, clients with well diversified, actively managed portfolios and robust income plans will be well placed to navigate any further volatility.