Reality Check – Update on my Friend’s Retirement Fund Real Returns

I first wrote a post on my friend’s WRAP account Mutual Fund Returns for June 2008. You can review the results at, “Are Your Retirement Fund Returns for 2008 as bad as this?“.

He has just sent me an update of his WRAP Account as at this week. He got this information from his on line account. He won’t get a report until sometime in January.

Quite frankly I was shocked by the figures;

Real Retirement Fund Returns Year to Date to December 2008

The figures compare the returns to June 2008 with those to 12th December 2008. As you can see;

  • Property losses have increased from -34.68% to -61.53%.
  • Australian Share losses have increased from -17.64% to -43.04%.
  • International Share losses were saved by the rise in the US dollar against the Aussie Dollar but still managed to increase from -23.56% to -31.83%.
  • Overall losses on risk-based assets increased from -22.80% to -43.33%.

In my view this proves the case that “buy and hold” is highly flawed as an investment strategy in a mature bull market, at least for Baby Boomers who are just retiring from the work-force. There has to be a better way.

At no stage during this turbulent time has his financial planner bothered to contact him to advise him or to reassure him. This is quite frankly disgusting when you consider he is paying about 2% in fees.

The financial planner/wealth manager was getting fees of approximately $12.6K per annum on the risk-based assets left in the fund. The current fees are only $7.1K due to losses. But whilst my friend has lost $272K the people supposed to be looking after his account have lost only $5.5K. The percentage loss is the same but the dollar losses are what count for my friend – it hurts like hell.

Why should a retiree sit there and watch 43.33% of their nest egg invested in risk-based assets just disappear and passively accept wealth manager platitudes to sit tight as the market “always comes back” with no idea of when this time around. That assumes my friend will be contacted about this appalling performance.

What you see here is normally masked by the fund manager because they mix risk-based assets with safe assets in what they call a “balanced fund” 🙁 In Australia a balanced fund can be 70% in risk-based assets. That definition defies logic until you realise the fund makes money on transaction costs so the more of your money there is in equities the better for the fund managers.

Fund managers are also competing for business and need to put more of your money at risk to get the returns in a bull market. Unfortunately the losses are bigger in a bear market too.

In the table above you can see there is $640K in fixed interest and cash – the safe assets. These are considered safe assets because of assumed low volatility. That is a little debatable right now too when interest rates are dropping like stones.

Most people do not realise they can get a negative return on the fixed interest portion of their funds too. They are not like depositing money in a bank and getting a fixed return whilst the capital is maintained. I’ll cover that in another post.

My friend took some action prior to June 2008 and withdrew all the safe asset money and instructed the fund managers NOT to re-balance his portfolio. This left the risk based assets isolate and frozen and made them visible to him.

He took $640K and placed it in a bank term deposit account where he got 8% for eights months I believe. So he has realised $51.2K on that money. This is a great return considering what has happened in the last twelve months and it is money he could live on  if he needed to.

It also helps him take a more rational view of the -43.33% loss on the risk based assets left in his portfolio.

This is where the masking comes in and why funds want your money to invest in safe assets as well as risk-based assets and why they use the term balanced portfolio. If we assume my friend left the $640K in the portfolio and it made no gain or losses then the fund would report a loss of only -21.46%. Still horrible but you don’t feel quite so bad.

Fund managers mix risk-based assets with safe assets to give you a false sense of security and to reduce redemptions when things go bad.

In this article Super Fund Returns Tumble by Christine St Anne you can see that in Australia the 12 months returns to date on a balanced fund is -17.61%. So you would console yourself with saying it was not too far from the average. Here the flaw of averages is lulling you into a false sense of security.

You need to realise this is your retirement fund and it has to last you for life. The risk-based assets have to work very hard to make up for the 43.33% loss just to get your money back.

In fact you have to make about 77% return on your risk-based assets just to get your money back (inflation not accounted for here, nor you taking a pension).

Further down in Christine’s article we read that

“Despite the market downturn, balanced funds still posted 6.67 per cent over the past five years.”

So do the math. If the long term average is 7%, it is going to take 11 years to get your capital back. I’m not being fair here because I know averages don’t happen in real life.

What could happen though is we could get several more years of negative returns in a row or we could do what happened in 2003 and we could get several years of 16% or more returns.

We just don’t know. The probabilities are though that returns will be low or negative for the next few years, exacerbating the problem.

The lesson here is to separate your risk based assets from your safe assets. Get control of your safe assets and put them somewhere you can access them to live off.

Visit your financial planner and do the same exercise my friend did;

  • Isolate your risk-based assets and make sure your fund manager doesn’t try to rebalance your portfolio. Then I suggest you forget them and give the markets a chance to come back.
  • If you have a reasonable amount of cash put some in longer term investment to create an income ladder.
  • Don’t redeem risk-based assets that have lost large amounts of your capital unless you need the money to live on. Even then only draw what you need.
  • If you start to accumulate cash in your safe asset accounts, you should prepare a plan to go back into the markets to buy up highly depressed stocks slowly. This will help your risk-based assets recover your losses more quickly when the bull returns.

Now the disclaimer. I am not a financial planner and anything in this post should be discussed with your trusted financial planner and understood by you before you take any action outlined here.

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