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Altered State: What's New in How Advisors Deliver Retirement-Income Support

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The market downturn in 2008 and early 2009 has had considerable impact on advisors who serve retirement clients. In talking with practitioners across the country, it is clear that not all advisors are making changes to how they support clients or are questioning their abilities to build sound retirement income portfolios. However, many advisors are revisiting basic assumptions underlying portfolio construction and changing how they allocate assets or select investments. The net result is a renewed examination of how to best deliver retirement income support.

Overall, the downturn has caused some shifts in the level of confidence advisors have in their approach to constructing retirement income portfolios. As noted in our latest research report, “Examining Best Practices in Constructing Retirement Income Portfolios,” nearly one in three advisors surveyed in March 2009 were less confident in the approach they use for retirement income than they were 12 months earlier.

Of course, not all advisors have suffered a crisis of confidence. Roughly four in 10 advisors remain as confident as before in the way they construct retirement income portfolios, while approximately one in five advisors are now more confident in their retirement income approach. Advisors who serve a smaller percentage of retirement clients and those who follow a risk-adjusted total return approach to retirement income delivery appear to be less confident, while advisors using a pooled investment process and those serving a larger book of retirement clients tend to remain most confident.

This shift in confidence also is reflected in whether advisors believe clients will be able to achieve their retirement goals. Notably, one in three advisors are less certain that clients will be able to live the retirement lifestyle they may have previously anticipated. As an experienced advisor told us recently, “For the first time, I am feeling some doubts about whether all my clients will be able to experience retirement the way they had planned. For most of my clients, this means working a few more years or cutting back to some degree on expectations for travel or for helping out the kids. Not necessarily a game changer. For other clients, however, the options are more limited and the impact is more significant. They may not be able to enjoy the more relaxed and confident lifestyle they had expected. This is a hard conversation to have with clients, although for those impacted, not a surprise.”

Confidence is not the only factor in flux. As with clients, the downturn is causing some advisors to revisit some of the fundamental assumptions they use to build and deliver retirement income. Prominent among the areas of concern for advisors are the challenge of managing investment risk, the validity of historic return assumptions, the reliance on modern portfolio theory as the basis for building retirement income portfolios, and a shift to greater focus on short-term investment issues.

Interestingly, while questions abound and advisor confidence may be wavering, few advisors have made significant changes to how they construct retirement income portfolios. Instead, most advisors suggest they have made more modest changes. Fewer than one in five advisors have made what they characterize as a significant change in the past year to their investment philosophy, their overall investment process, their asset allocation or the investment products and providers they use.

More common are what advisors describe as modest changes to portfolio construction, with shifting asset allocations the most likely action. As one advisor noted in a recent discussion, “I haven’t given up on my overall approach to how I manage retirement assets. But I can’t just sit by and maintain a hands-off approach. I keep a much closer watch on the allocations and the investments I use for retirement income clients. The days of buy and hold and put it away is gone, at least for now.”

Understandably, the extreme environment has caused advisors to make changes to asset allocations. As would be expected, many advisors have chosen to reduce exposure to U.S. and international equities, while increasing allocations to cash and fixed income investments. There has been only a modest change in the use of non-traditional strategies such as real estate, commodities or hedging approaches or other alternative investments. The changes to allocations appear consistent across advisor philosophies, channels and experience.

It is likely that some of the behavioral and attitudinal shifts caused by the market downturn will be lasting and lead to ongoing changes to how advisors deliver retirement income support. Several advisors mention the need for more frequent adjustments to portfolios in both the strategic allocation and tactical elements of the products and positions held. Some believe that a buy-and-hold philosophy is too exposed given the sharp moves in the marketplace and that advisors must be more vigilant than ever.

The market downturn has reinforced some of the fundamental challenges of serving retirement income clients. The past 18 months have again underscored the uncertainty inherent in managing retirement income portfolios and the absence of generally accepted benchmarks or standards in how to deliver effective support.

As our work with advisors indicates, there is significant variation in how advisors choose to build and manage retirement income portfolios and little agreement on the optimal way to deliver support for clients. Most “best practice” advisors recognize the need to take a flexible, highly customized approach in serving retired clients. The market environment in the past year has merely reinforced for most advisors the difficulties that they will face as the coming wave of aging boomers enter retirement and look for professional guidance to help them navigate this transition.

As a leading retirement advisor states, “The challenges of serving retirement income clients are many, even in the best markets. Going forward, we need to take a fresh look at how we can really serve our clients. Managing risks and expectations combined with the expertise to know what steps to take will be at a premium. Most advisors are reassessing risk tolerance and are concerned about long-term client goals and keeping pace with longevity and inflation, especially if investors become too risk-averse or conservative. Finding a balance between providing the client needs and wants will be critical. Advisors must wake up and not get left behind…the potential impact on clients is just too great not to make retirement a priority.”

For information about our latest research report on retirement income and financial advisor best practices — “Examining Best Practices in Constructing Retirement Income Portfolios” — contact Dennis Gallant at [email protected] or Howard Schneider at [email protected].