From decumulation options to investment choice, capital accumulation plan members face several challenges when they reach retirement.

On the decumulation front, many members leave their assets with their final employer’s pension provider, which offers group registered retirement income funds or life income funds with well-managed investment options and lower management fees. As well, an increasing number of CAP sponsors offer options where members can stay in their program and also benefit from lower fees.

But what about investment choice? While target-date funds are the natural investment vehicle for plan members who used them throughout their accumulation phase, are they the best solution for decumulation?

Investing 101

When investing regularly in a volatile market-based fund, an investor automatically buys more units of that fund when the markets come down and less when the markets go up. This concept, known as dollar-cost averaging, mechanically reduces the average fund unit cost, reducing risk and helping to increase overall long-term returns. There have been debates about the virtue of dollar-cost averaging when used to invest a large sum of money instead of investing the sum completely and immediately. However, for someone saving every pay period, such as in a capital accumulation plan, the concept is quite sound.

Read: 2017 CAP Suppliers Report: Employers tailoring CAPs for a more holistic financial picture 

But when a plan member is withdrawing money on a regular basis, such as in a RRIF or LIF, the reverse is true: when markets go down, the member has to sell more units to get the same regular monthly income, which means there are fewer units left to catch up when markets rebound. This is why volatility and regular withdrawals can be a bad combination if they aren’t managed well.

Does this mean RRIFs and LIFs should only make use of very conservative investments? Of course not. In fact, retirees need a growth component to protect against longevity and inflation risks.

Simple isn’t always best

Using a single diversified fund, such as the post-retirement version of a target-date fund suite, for RRIFs or LIFs is appealing to plan members because it simplifies the investment process and offers great diversification. This diversification tames volatility, but asset mixes also tend to be conservative, reducing the negative impact of reversed dollar-cost averaging of regular withdrawals.

As part of a project with clients, BFL Canada asked some target-date fund managers how decumulation withdrawals are dealt with in their post-retirement funds and how they affect asset allocation and performance. There was no strong consensus on this, and while some managers had clearly given this issue serious thought in the fund’s design, others were surprised by the questions. Could all this prudence around volatility reduce long-term performance, limiting protection against inflation and longevity risks? Is there a better way?

Different baskets for different time horizons

A large portion of savings accumulated at the time of retirement won’t be withdrawn for many years — consider retirement income payments passed age 80. They could have an investment horizon of more than 15 years, allowing for a more dynamic portfolio than when all savings are considered together.

Read: New report proposes national pooled longevity insurance program

One conceptual approach could be to use a combination of three portfolios:

  • One with sufficient assets for the expected next two years of withdrawals, invested with no or very low volatility;
  • One with sufficient assets to cover expected withdrawals to be made in the further three to five years, invested with limited volatility and a stable income focus; and
  • One holding the rest of the assets, for longer-term withdrawals, invested in a diversified portfolio that would gradually reduce risk over time, much like a target-date fund but with a higher risky asset allocation at the time of retirement.

The strategic allocation between the three portfolios could be reviewed annually based on expected retirement income withdrawals, set according to RRIF/LIF minimum and maximum rules. The portfolios could also be automatically rebalanced every quarter to capture and crystallize gains in the growth portfolio. The short- and mid-term portfolios would ensure there’s sufficient liquidity for five to seven years, providing a good cushion to allow the growth portfolio to recover in case of market downturn. All retirement income payments would come out of the short-term portfolio, eliminating the withdrawal timing issue.

Read: Taking a risk-based approach to evaluating target-date funds

Obviously, this approach could be refined. Advances in robo advice and artificial intelligence technologies should, however, support implementation with a more viable and rigorous methodology for defined contribution providers in the not-so-distant future. Retirees in defined contribution plans could then get a firmer grip on the two most important risks they’re facing.

As Canadian regulators shift their focus to address decumulation issues, CAP sponsors should get more involved in keeping an eye on post-retirement investment options made available to their former employees, especially if they stay in the employer’s program. Understanding how these various options work will be key to meeting fiduciary obligations.

Jean-Daniel Côté is vice-president of retirement at BFL Canada Consulting Services Inc. These are the views of the author and not necessarily those of Benefits Canada.
Copyright © 2020 Transcontinental Media G.P. Originally published on

Join us on Twitter

Add a comment

Have your say on this topic! Comments that are thought to be disrespectful or offensive may be removed by our Benefits Canada admins. Thanks!

* These fields are required.
Field required
Field required
Field required