Fund options in pension phase

My wife and I are about to retire and to start to draw pensions from our super funds. Should we be changing our investment strategies to more conservative options now that new money won't be going into

our funds?

I don't know how soon you'll start withdrawing money from your funds. But as a general rule it makes good sense as you get closer to retirement to build up the liquid assets in your super fund. This is because you don't want to be in the situation of having to redeem fund investments to get money to live on should markets turn down and investment returns fall.

Do you have a rule of thumb to provide some guidance about how much cash or liquidity we'll need to have in our funds in order to pay the regular pensions?

Yes, there are guidelines such as ensuring the fund has sufficient cash or liquid assets to pay three years' pensions. The liquidity you require could be even higher than that if you want to make lump-sum withdrawals from your fund.

Of course, this is just a general rule and individual circumstances differ as to the likely future need for cash.

That target of three times the annual pension to be in liquid assets seems on the high side to me. Surely the annual income earned by our funds will go a long way towards funding our regular pensions?

The annual income earned by the fund can, as we've seen over the past 12 months, be volatile and even negative. In this situation, you'll have no option but to sell down fund assets to help pay your pensions.

Particularly when no new contributions are flowing into your fund, it's essential to keep a reasonable cash buffer to pay your pensions. This is why three years of pension payments is widely accepted as a benchmark.

Our funds don't have anywhere near that level of cash reserves. To date, we've invested all of our assets in a balanced fund chosen for us by the trustees as their default fund. How can we build up our liquid assets quickly?

If you want to cash up part of the fund quickly, your only option is to switch part of your fund investments to more liquid, accessible investments. It would be a good idea to monitor your fund performance and make the switch at a time when investments are performing well. Remember also that you can alter the investment mix in the period before retirement.

Can you provide more information on this pre-retirement option?

Some fund trustees automatically do this for investors in their default funds by varying the mix of investments depending on the age of the investor. This is a phased-in process, recognising that the older the fund member, the more appropriate conservative investments are likely to be.

You can also build up the liquidity of your fund by allocating your new contributions in the years leading up to retirement to lower-risk, more-liquid assets.

Why haven't our super funds been bringing these issues to our attention?

There are several reasons, including that, until recently, super funds haven't been able to provide advice to their members. Now funds can provide limited advice to members and are increasingly considering such action.

Another, and probably more important, reason is that for over a decade balanced and growth super funds were providing high positive returns for their members. These superior investment returns created what have now turned out to be unrealistic expectations about continuing high returns from investments.

Won't we be losing out on higher investment returns by holding a substantial part of our fund assets in lower-yielding liquid investments?

You may or may not receive lower overall fund returns by increasing the level of liquid assets in the fund. If you had built up your cash assets over the past two years, your fund returns would have been higher than by investing all the assets in balanced and growth options. But even if you do receive lower returns by increasing the liquid assets in your fund, you will have the benefit of being able to sit out a downturn without being forced to sell assets at depressed prices.

Increasing the liquidity of your fund before starting a pension is in many ways akin to taking out an insurance policy.

Are there any other aspects of investing for pension funds we should be aware of?

The main one that comes to mind is that investments providing regular dividends and similar periodic payments will help fund the retirement pensions over an extended period. When the income takes the form of fully franked dividends, the fund return is enhanced by the cash refund to the pension fund of the attached imputation credits.