Low Interest Rates Forces Retirees To Review Strategies

June 6 - 7, 2009. Oh, the joy of low interest rates! For most of the working population in South Africa, the falling interest rate environment offers some relief amidst the financial turmoil.

Assuming you are being charged the prime overdraft rate on your home loan, the 4.5% reduction in the prime overdraft rate since June 2008 equates to a saving of R4,500 per year per R100,000 of your home loan. That is a significant saving. But what of the other side of the spectrum? Those who rely on their savings and the interest they earn on those savings, to survive? A large number of retirees are asking how to get by with current low interest rates.

The dilemma is tangible. Based on a retirement age of 65, most retirees were born prior to the conclusion of World War 2. Their formative years were spent recovering from the devastation of the War, and they experienced first hand the hardships their parents had to go through to rebuild their lives. To a large extent, these retirees have been hard-working, and have been diligent savers, anticipating and welcoming a comfortable retirement. Now, as stock markets correct worldwide, and low interest rates prevail across the globe, they see their long-term retirement capital dwindling, and possibly even running out. What can they do? How can they ensure that they still have capital left twenty years in to the future?

Cash is so tempting in volatile times. But that is where low interest rates bite hardest. It is imperative that retirees invest in a diversified manner across all asset classes. Over the last nine months, it has been very tempting to move in to cash. Cash, after all, apparently holds basically no risk of wealth destruction. However, cash also holds no hope of long-term wealth creation, once inflation is taken in to account. With the falling interest rates, the returns you are receiving on your money market investments are reducing as well. Cash is not the long-term play.

To ensure your portfolio has the ability to earn real returns, it should have exposure to all the asset classes. If you are concerned that your portfolio may run out in 20 years time, then it is important that your asset allocation is reviewed. It may be necessary to increase your equity (share) exposure, as these usually outperform all other asset classes over time. History tells us that. It is a fact that the All Share Index is currently about 34% off the highs of May 2008. However, we are also currently about 23% up on the lows of November 2008. Even taking the second half of 2008 in to account, we are currently about 125% up on a 5-year time frame (i.e. from May 2004), and 186% up from April 2003.

Although it may not seem to help the retiree in the short term, low interest rates also help to stimulate the local economy, by encouraging consumers to spend. This in turn helps the profitability of companies, increasing their share prices and enabling them to pay dividends.

How then does one go about realigning one's investment plan? I would recommend you use the services of a fee-based, independent Certified Financial Planner who specializes in investment planning. You need to ensure that the professional advice you receive is completely impartial, and has your best interests at heart. Your financial planner should take a holistic view of your current financial circumstances, and then devise an investment strategy that is in line with your lifestyle requirements. By doing this, your financial planner will be able to demonstrate how long your capital will last. By altering the asset allocation to a more aggressive strategy, your financial planner will be able to increase the longevity of your capital in the long term. However, this comes with risks, and increases the volatility of returns in the short to medium term. You need to ensure that you are comfortable with the increased risk, and can survive the volatility. If you are unable to, then you may need to revisit your lifestyle requirements, and possibly downscale your income needs for a period.

A financial planner will also be able to assist you with tax and investment solutions that provide a regular income stream, irrespective of the fluctuations in the interest rate. Transferring a retirement annuity on maturity into a life or living annuity could remove your dependence on the vagaries of the interest rate and market fluctuations.

Falling and low interest rates may well place short-term pressure on your retirement planning strategy. However, by working in conjunction with your financial planner and regularly revisiting your retirement strategy, and by ensuring diversification and exposure to all the asset classes, you should be able to navigate the volatility that exists in the markets, and ensure your capital endures.

Ian Beere, CA(SA) CFP was Financial Planner of the Year in 2007. His business partner Debbie Netto-Jonker CFP, founder of Netto Financial Services, was Financial Planner of the Year in 2001.