Last Updated on 15/02/2024 by Carl-Peter Lehmann
Updated 8 February 2024: The 10 Biggest Retirement Planning Mistakes to Avoid. There are many issues in retirement planning at present. The hope is that retirement signals a time of tranquility and reward after a lifetime of work. However, the realities, particularly for South African investors, challenge this idyllic vision. Lingering issues such as underwhelming returns and high fees require a new strategy. The statistic that only 6% of investors achieve a successful retirement is often thrown around, but no one is asking why? The retirement industry likes to point the finger at us – we don’t save enough; we don’t preserve our pensions when moving jobs – but rarely look at themselves and the role they play. The 10 biggest retirement planning mistakes to avoid aims to look at the current challenges of retirement planning as we explore solutions to help navigate them.
Table of Contents
1. Misunderstanding Longevity: The Dual-Edged Sword
A longevity revolution, brought about by advancements in medical technology and science, is remodelling our retirement perspectives. Longer, healthier lives are becoming the norm, not the exception. However, longevity brings its challenges, the primary one being making your money last. The mistake many make is underestimating their life expectancy and thus, the risk of outliving retirement savings. Planning for a life expectancy of 105 instead of 95, means an additional 35% in savings is needed assuming you retire at 65. That’s a massive difference. Therefore, adequate retirement planning is essential to accommodate these longevity realities.
2. Underestimating Poor Returns of Retirement Funds
A common blunder is overlooking the lacklustre returns of South African retirement fund investments, which amplify the fear of longevity risk. We know domestic equity markets have been lacklustre for the best part of the last decade, which has significant knock-on effects for our retirement savings (particularly due to reg 28 investment constraints).
For a ‘successful’ retirement (so you can be one of the 6%) – the retirement industry advocates investing 17% of your income for 40 years. Do that – and assuming your retirement investments achieve an average return of Inflation Plus 5 (which today means about 10% p.a.) – you get to the ‘magical’ 75% replacement ratio (which is the benchmark that puts you into the ‘successful’ category).
Your replacement ratio is simply the percentage of your final salary/income that you can replace with retirement income. So if your final income at retirement is R100,000 per month, if your retirement savings can provide you with a starting income of R75,000 p.m. or higher (adjusted for inflation), you’re one of the six percenters.
Decoding Poor Returns of Retirement Fund Investments
But as things stand, even if you do everything right, you’ll end up well short. Why? Because of the very ordinary returns our retirement fund investments have been delivering. If you look at the median return of balanced funds in South Africa over the last 10 years (which house most South African retirement fund capital) – they’ve delivered returns of about 6.87% p.a. Said another way, that’s a return of barely Inflation 2.
Retirement Fund Returns Compared
How many balanced funds are giving us the returns of 10%+ we actually need? We count 3 of approximately 93 funds that actually have a 10-year track record. *These are retail fund share classes
Only the ABAX Balanced Fund, Aylett Balanced Fund, and Long Beach Managed Fund have exceeded their Inflation Plus 5 mandate.
And how do some of the ‘big names’ stack up? The Allan Gray Balanced Fund has delivered returns of 8.24%; the Coronation Balanced Plus Fund comes in at 7.63%; and the Ninety One Opportunity Fund at least makes the list as one of the top performers even if its return of 8.63% is well short of what is needed.
Pro Tip: Look towards the boutique managers (or maybe less well-known) if you want better returns. Aylett, ABAX, Amplify, Fairtree, Truffle, Centaur are all examples of excellent fund managers. Once a fund become too big, it often becomes very difficult to consistently outperform smaller, more nimble players.
3. Overlooking the Impact of High Fees
Of the 10 biggest retirement planning mistakes to avoid, a lot of focus has turned to fees over the last few years, and rightly so. What might seem like negligible percentages can, over time, significantly erode retirement fund values. For instance, paying just 1% more in fees can consume over a quarter of retirement savings over 35 years. Sygnia, 10X and Satrix have been the biggest local proponents for driving this message home. It’s crucial that you have a clear understanding of the fees involved in your investment portfolios. That’s why there has been a major shift to passive and low-cost index funds/ETFs like those firms above specialise in. But how have they performed? Any better than their active counterparts above? Not really. But at least better than the category average and most of their peers.
There are not many options to choose from and few have 10-year performance records which is why we also show shorter time frames.
No 4 of 10 Retirement Planning Mistakes to Avoid: Relying Too Heavily on Local Investments
This one probably doesn’t get enough attention in terms of one of the big issues in retirement planning; the overreliance on our local and retirement fund investments. We’re already hamstrung due to Reg28 restrictions which limit offshore exposure and force us to have bonds in our pension funds and retirement annuities. The idea that a 30-year old with a 30-year plus investment time horizon should have bonds in their portfolio, is frankly ridiculous!
Diversification across different asset classes, including offshore investments, and those not constrained by retirement fund rules, is critical. A case in point, the long-term total return average of the S&P 500 in Dollars is about 10% p.a. Factor in average Rand depreciation of about 5%-6% p.a. over the last 30 years and your returns exceed anything available locally by a long margin. That’s just an example and we’re not advocating invest all your money in the S&P500, but simply trying to make a point.
Therefore, betting only on your retirement and pension assets to achieve financial independence just doesn’t make a lot of sense. The industry likes to focus solely on the tax benefits, but that doesn’t compensate for poor returns. You need a multi-pronged approach:
Consider Reading: 10 Best Shares to Buy To Achieve Financial Freedom
5. Not Taking Enough Investment Risk
One of the notable challenges of retirement planning is not taking sufficient investment risk. While risk might seem daunting, especially when it involves your retirement savings, it’s essential for growth. In investment terms, higher risk is often associated with higher potential returns. Therefore, having an adequate portion of growth assets such as equities in your portfolio is crucial, as they offer higher returns over the long term compared to other asset classes like bonds and cash. It’s crucial to remember that volatility doesn’t equate to risk. While volatility refers to the ups and downs in the value of your investments, risk refers to the possibility of permanently losing capital. In the long run, equities have historically outperformed other asset classes, despite their volatility. If you’re still more than 10 years away from your anticipated retirement date, you should always aim to have the maximum allocation to equities in all your retirement fund investments. When last have you checked to make sure that this is the case?
6. Not Understanding the Numbers
This is where working with a professional who knows their stuff and can help model various scenarios makes a huge difference. Something as simple as understanding the difference between what achieving returns of Inflation Plus 2 mean for achieving your retirement goals – compared to inflation 5.
You’ve done everything right. Saved 17% of your income for 40 years so you can achieve that ‘successful’ retirement everyone keeps talking about. Except the returns from your retirement fund investments haven’t played along (as is currently the case). Look what happens. Your money barely lasts for 10 years post retirement. By age 74 you’re in trouble.
What might seem look a small change, has huge ramifications. Here you are getting the returns you actually need – call it 10% p.a. or around Inflation Plus 5. Suddenly your money lasts well into old age and you can rest well knowing you’ll be okay.
No 7 of the 10 Biggest Retirement Planning Mistakes: Failing to Preserve
Yes, we get reminded of this often! And we know it’s true. Another significant mistake in retirement planning is failing to preserve our pension and providend fund assets when changing jobs. Often, we may be tempted to cash in our pensions during such transitions, either to cover immediate expenses or as a short-term financial boost. However, this decision has long-term implications and makes it harder to catch up on the lost capital and the time benefits of compounding. This is all changing however with the new Two-Pot System due to launch later this year. But it’s worth a reminder nonetheless. For instance, if you cash in R100,000 from your pension fund at age 30, not only do you lose the R100,000 but also the compound interest that money could have earned over the next 35 years. At an annual return of 7%, that R100,000 could have grown to over R1,000,000 by retirement. Therefore, preserving your retirement fund assets during career changes is vital to maintain the momentum of your retirement savings.
8. Retirement Planning Mistake - Overlooking the Power of Compound Interest
We’ve all heard about the magic of compounding and how it’s one of the wonders of the world. But really understanding it and how it takes decades to play out (not years), is crucial. A simple example. You save R5,000 per month for 30 years. Assuming an investment return of 8% p.a. – you end up with about R7.5 million. But once you get to 40 years – now you have R17.5 million – almost 60% more. That’s why starting young, even with small amounts, compounded over a long time can turn into something substantial.
9. Not Seeking Professional Financial Advice
Retirement planning can be complex, and the consequences of mistakes can be severe. Despite this, many people attempt to navigate the process alone, overlooking the benefits of professional financial advice. Of course we’re biased because this is what we do. But when last have you checked the actual returns you’re getting on your various retirement fund investments and how that translates into you achieving your financial goals? Do you understand all the fees you’re paying and how they could be hurting your chances of getting where you want to go? Have you got a clear, written, retirement plan where you’re absolutely clear on what you need to do to achieve your aims? Working with specialists, who do more than simply sell financial products, can make a huge difference in your ability to achieve financial freedom.
Consider Reading: The Value of Flat Fee Financial and Retirement Planning Advice
10. Not Adapting to the New Age of Retirement
The final retirement planning mistake is the failure to adapt to the evolving landscape of retirement. The 21st century brings new challenges to retirement planning, but we’ve been conditioned to believe that if you just keep adding to your pensions and retirement annuities, you’ll be okay. You can do all the right things, and that might still not be the case. Chances are if you’re younger than 50 today, living beyond 100 is going to become the norm, not the exception. And if the underwhelming returns provided via retirement fund investments continue, being able to retire is going to be exceedingly difficult. New strategies and ways of thinking are needed.
Read Next: The Ultimate Retirement Planning Guide for South African Investors in 2024
Closing Remarks on the 10 Biggest Retirement Planning Mistakes
Retirement planning in South Africa requires a fresh, innovative approach that addresses these ten common mistakes. The challenges of retirement planning can with careful planning, rethinking our investment approach; coupled with sound advice, help everyone avoid these pitfalls. It could be time to revisit your strategy and make sure it’s fit-for- purpose in a rapidly evolving world.
Carl-Peter Lehmann
Carl-Peter is a Director and Partner at Hencforward. He has more than 20 years experience, is a CERTIFIED FINANCIAL PLANNER™, and has previously worked for large global institutions. He is passionate about helping his clients achieve financial security by bringing fresh perspectives to outdated beliefs.
