The risks and rewards of post-retirement solutions

As thoughts turn to decumulation, defined contribution plan sponsors have to look for different metrics to assess the variety of products on offer.

During a session at Benefits Canada‘s 2020 DC Plan Summit in Montreal in February, Ed Studd, solutions manager of U.S. portfolio solutions at Schroders, called on plans to set a new consistent framework to measure risk and focus on income delivery. “Once you have your framework in place, you can identify those elements to include in a good solution to offer to members and that keep fiduciary risk low.”

Retirement is still a long time horizon, he noted, but unlike during the accumulation phase, a plan member’s needs and objectives are more complex and often conflicting. There’s also a huge burden on employees to figure out what to do and, often in the retail market, at a high cost.

Read: An overview of new DC plan decumulation options

“There’s a conundrum for plan sponsors,” said Studd. “There is some desire to help with a solution and reap the associated benefits. But there are also concerns on taking on fiduciary responsibilities for people who are no longer employees.”

Good post-retirement solutions are only a matter of time. However, given the complex objectives, how does a DC plan compare and evaluate what’s available? “It’s no longer enough to use the pre-retirement approach and criteria such as volatility of returns,” he said. “In fact, using these metrics can be misleading.”

Fiduciary risk can provide guidance for evaluating solutions. “If you take it to the extreme, the most prudent way to invest for retirement would be to find a bond portfolio where cash flow is aligned with the income you want to draw down. You’d have no worries about interest rates or inflation. You buy at the outset and there are no significant changes.”

In real life, of course, plan members don’t invest in just bonds, due to low returns and the fact that most people want to take on some investment risk. But it can provide a consistent guideline in terms of a standard risk measure: the plan sponsor can look at the proposed solution relative to the price of a bond portfolio.

Read: How DC plans can make the best of worst-case situations

This approach enables the plan to compare, for example, the different ways income can be paid out. “Some strategies propose a fixed amount irrespective of market performance, but the member doesn’t know how long that will last. Others set a time horizon and adjust the payouts over time in order to achieve the pre-established duration. Comparing income relative to risk provides a consistent measure.”

Studd said plan sponsors have to start talking about post-retirement strategies, and call on asset managers to continue innovating. The best solutions are likely to include a variety of investment options in order to meet the plan members’ needs during retirement. “There will be different components. You might invest in corporate bonds in order to get credit return. But you might also need to find some inflation protection, as well as a multi-asset portfolio for growth.”

Read more stories from the 2020 DC Plan Summit.