The man with $1 million was worried. He didn't know whether it would be enough.
It was a sign of the times. A million dollars – for so long regarded as a measure of financial security – is not all it used to be as a retirement buffer in these days of improved healthcare, longer lives and diminished interest rates. Returns, even on "a million bucks", are not what they were.
If that wasn't scary enough, the common Kiwi retirement theory – I'll just sell my house and downsize – has a few holes in it as well. Research by New Zealand's Financial Services Council (FSC) showed downsizing may only buy three years of comfortable retirement living.
Chris Di Leva, multi-asset specialist for Harbour Asset Management, was able to reassure the "man with a million" by introducing him to a relatively new product – an income fund which uses retirees' capital to generate a regular income, investing the money with returns paid out at consistent intervals.
The benefit? Di Leva says the Harbour Income Fund aims to make a monthly fixed after-tax distribution that currently equates to 4.25 per cent per annum.
"Compare that to term deposits these days – which is where a lot of retirees put their money when they take it out of KiwiSaver," he says. "Now you get 2.6 per cent before tax, which is about 20% lower than they would have got a year ago. People are going to get a shock when their term deposits mature."
The income fund is designed so that the retiree gains a regular income, on top of superannuation, without eroding the capital value of the fund over the medium term.
That, says Mark Brown, Head of Fixed Income at Harbour, represents a change in
retirement thinking that many New Zealanders have not yet made. The old formula of saving hard, whether through KiwiSaver or other means, retiring, cashing up, going on holiday and buying a new car has largely gone.
"One of the big issues is that life expectancy has risen over the past 20 years from 78 years to 87 years," says Brown. "New Zealanders are still investing in the same things they were 20 years ago – but they now need their retirement savings to last them longer. That can only be done by saving more while you're working or by getting a better return on your savings."
Other popular cushions like rising property prices and rental properties have also suffered setbacks. The downsizing strategy was exposed by the FSC's 2017 research estimating the total wealth Kiwis expected to take into retirement – and whether they were over-estimating or under-estimating their financial security in retirement.
FSC CEO Richard Klipin said at the time: "We surveyed 2200 people and found that the average outcome for people downsizing their homes was that it only gave them 3.3 years.
Most will either be moving to a retirement home or to a smaller house – so they will be using some of that property value to re-enter the market [incurring real estate and legal costs on both transactions].
"We also found nearly all older New Zealanders will be living on the pension alone after just 10 years."
Di Leva says while house prices rose by 76 per cent over the past 10 years, investors can't always rely on capital gains "Many homeowners in Sydney, Melbourne and Auckland have found out property prices don't always go up. In Australia, average house prices have just ticked back up to 2017 levels after sharp falls; Auckland house prices, until recently, had flatlined."
Without capital gains, he says property investors are left with rental yields: "but they are near record lows. According to MBIE and Core Logic, rental yields in New Zealand are just 3.3 per cent before expenses such as rates and insurance, which have both been increasing steadily.
"For many the income that rental properties generate – a favourite retirement strategy – won't be enough to generate sufficient income to retire on. New Zealanders need to take this as a wake-up call to diversify their investments."
Income Funds have become increasingly popular as investors have started to consider how best to tackle a world of low interest rates, Di Leva says. These funds are typically aimed at retirees by consisting of only 20-30 per cent of shares plus a mix of other stable investments like cash and fixed income assets.
Harbour manages $136m in its Income Fund on behalf of iwi, trusts, foundations and individuals – and income amounting to more than 5 per cent can be gained if the investor sells down some of their holdings each period, spending their capital along with the income in a plan that many investors aim to extend over their life expectancy.
Brown says: "KiwiSaver has been a fantastic tool in helping New Zealanders save for their retirement and demonstrating the benefits of investing in share markets. It showed investors that, if you stick the course with a portfolio with a mix of shares and more defensive assets, while there will be some ups and downs, over the longer term you should beat the return you'll get with term deposits.
"But while KiwiSaver is a fantastic tool to help investors accumulate wealth, the problem for many is when they reach retirement, they need to turn their savings into an income stream to fund the gap between NZ Super and the retirement income they need.
"That's where income funds come in."
*This story was first published on 2, August, 2019. It has been updated with more recent data.