A couple of years ago I buffed up my crystal ball with Mr Sheen but the picture was still a dark one. Specifically, the risk to near-term retirees running into a poor sequence of returns [1] looked high to me.
As things turned out, soaring inflation together with tumbling equity and especially bond markets did indeed make 2022 [2] a year to forget for diversified investors.
One crappy year is easy to ride out when you’re young, accumulating savings, and many years away from pulling the plug. Lower prices are a bonus, enabling you to buy assets more cheaply [3].
However a bear market is a scarier and potentially more damaging prospect around retirement age.
Sequence of returns risk [4] turns on the order in which investment returns occur. And we need to pay particular attention in the early years of retirement.
Negative returns at the start of retirement can lop chunks off the longevity of a retirement portfolio, due to your need to make withdrawals for income from your shrinking pot.
That’s true even if you eventually see decent average annual returns over the length of your retirement.
The bright side
Hopefully the pointers in my piece [1] on how to soften the blow were helpful if you were retiring – or just thinking about it – in 2022.
What’s more, the worst of the portfolio drawdown was short-lived. Equity gains in 2023 and 2024 – beginning shortly after the Truss fuss [5] – plastered over much of the damage. At least in nominal terms.
On the other hand, while bonds long ago stopped plunging, they’ve barely bounced. Bonds are like a coin that’s fallen out of your pocket to skitter beneath the sofa. Down, out of sight, and maybe out of mind.
As for inflation, thankfully it’s returned to near-target levels [6]. But that doesn’t undo the prior period of very fast rising prices.
Downgraded retirement dreams
Once prices go up they usually stay up. That’s what makes runaway inflation so terrifying to those on fixed incomes.
The Pension and Lifetime Savings Association has hiked [7] by 34% its estimate of the annual income required for a ‘comfortable retirement’ for a single person, compared to 2022. That’s more than enough to eat into the income buffer of almost any plan.
We can debate the PLSA’s assumptions (and Monevator readers did at the time [8]). But everyone agrees the cost-of-living has soared.
For many retirees, this will mean a much tighter spending budget than they expected to play with. Or even a return to work [9] for some.
Things could only get better
It’s important to stress that those who retired in 2021 or 2022 aren’t doomed to penury, just because of a single annus horribilis.
Sustainable withdrawal rate assumptions underpin many plans – often simplified to the 4% rule [10]. And these are backtested across far worse bear markets and inflationary episodes than our recent wobble.
Think wars, depressions, and even gnarlier inflation.
True, the 2022 vintage of retirees will see lower returns in the future from pulling their 4%-or-whatever out of a smaller pot of savings in the first year. That’s just maths.
They’ll probably more feel the pain of higher prices too, compared to someone whose portfolio was fattened for years before we ran into the inflationary buzzsaw.
But assuming they had enough money at the start to prudently retire in a sustainable way [11], the past couple of years shouldn’t derail them.
Yet at the same time, anyone who delayed retirement until after bonds had finished their swan dive and inflation its Olympic high jump might be feeling quite smug today.
Bonds are back
Much of what dinged the prospects for a 2022 retiree now gives today’s sufficiently well-funded retiree more reason to look forward to life on their 4% – or thereabouts – withdrawal rate.
Note: I’m not forecasting a bull market here. (Nor was I predicting a certain equity crash in 2022.)
Forecasting future equity returns, especially over the short-term, is either very hard or impossible [12], depending on who you believe. Equity valuation levels can give us a clue to longer-term returns. And very high valuations do tend to point to lower returns eventually. But even this method isn’t foolproof, and it’s definitely no short-term timing signal.
However things are different with bonds (and perhaps also with so-called bond proxies).
Bond maths rules the roost. Higher bond yields will deliver higher future returns [13], versus lower yields.
Conversely, very low yields on bonds was exactly what made the outlook in early 2022 so troublesome. As central banks hiked interest rates aggressively against a backdrop of rocketing inflation, bond prices were nailed-on to fall.
In the end yields across the market went much higher than almost anyone had predicted, putting bond prices in the dumpster.
It was the worst bond rout of all-time [14] in the US – and the UK was not far behind.
But those same falls also transformed the prospects for bonds. The negative bond yields of a few years ago have been vanquished. Even after a recent rally, ten-year gilts are still yielding 3.9% nominal. Buy and hold such a bond to maturity and that’s the return you’ll get.
It’s a similar story with inflation-linked bonds [15] and – to widen the lens – annuities.
A better time to retire on an annuity
The following table shows changes in annuity rates since December 2021:
[16]Source: Sharing Pensions [17]
To be sure, annuity payouts need to be higher – inflation pumped up retirement costs by 30% or more remember. Yet even that vertiginous ascent has been outpaced by the rise in what £100,000 now gets you.
Property rental yields have risen too – albeit offset by higher borrowing costs – for those who still fancy the challenged [18] buy-to-let route to a retirement income.
Naturally speaking, incomes are higher
We can also see the better sitrep for today’s imminent retirees by considering the level of natural yield your money now buys you.
Aiming to live on the income [19] thrown off your portfolio is controversial. I won’t re-litigate the pros and cons in this post. I’m not suggesting this is how you should invest your retirement savings or that lifelong passive investors should buy active funds.
See my Mavens post from January [20] if you’re curious.
Instead let’s simply consider the sort of hands-off-ish portfolio I personally might put together, assuming I wanted to live on a natural yield today. Just as a pointer to the value on offer:
| Asset | Allocation (%) | Yield (%) |
| JP Morgan Claverhouse | 10 | 5.0 |
| Murray Income | 10 | 4.4 |
| City of London Trust | 10 | 4.7 |
| Bankers Investment Trust | 10 | 2.4 |
| Henderson Far East Income | 5 | 10.8 |
| Renewable Trusts basket | 5 | 7.5 |
| Infrastructure Trusts basket | 5 | 6.5 |
| UK Property REIT (IUKP) | 5 | 3.7 |
| Intermediate (10yr) gilts | 20 | 3.9 |
| Index-linked gilt ladder | 20 | 0.5* |
| Portfolio yield | 4.0% |
Source: AIC, ETF factsheets, author’s calculations and guesstimates. *See comment #9 below for more on the index-linked yield, which is real where the others are nominal.
Despite my allocating a fifth of the portfolio to index-linked gilts for safety reasons, we’re still hitting a 4% initial natural yield, which I have every reason to believe would grow over time – and with a decent shot of keeping up with inflation over the long-term.
Compare that to when I sounded the sequence of returns alarm in early 2022.
The 10-year was then yielding about 1.6% and the yield on linkers was negative. Without looking back and doing a deep comparison, I know equity income trusts were on average around par so we can assume slightly lower yields, while infrastructure and renewable trusts were about to nosedive from high premiums to deep discounts. I’d estimate that added about 200 basis points to their running yields.
If I plug my 2022 yield guesswork into the same assets I get an estimated 2022 yield of just 2.9%.
This isn’t even to talk about the pounding of capital values that was about to hit such a portfolio over the rest of 2022 and beyond – from which it wouldn’t have yet recovered.
Indulging retirement daydreams
Of course you might reasonably argue that if you were being active about things, then perhaps you’d have owned a different portfolio in 2022.
A global tracker didn’t yield much in 2022, but it’s well up in capital terms over the past two years.
However I stress again I’m not citing this portfolio to sneak in a pitch for natural yield. I’m just showing how the re-pricing of assets – and the taming of inflation – might make today’s retirees more confident.
Of course inflation may not be tamed.
Inflation erodes the purchasing power of your money, making it one of the biggest threats to retirement income. As we saw above higher inflation also means higher living costs. If inflation takes off again then my example 4% nominal yield will obviously wilt in real terms.
But as best I can tell the omens on inflation look good.
Higher yields make this a better time to retire
Of course an equity market crash could happen at any time, too.
The US in particular still looks historically expensive [21], despite the recent wobble. While that doesn’t mean it’s sure to decline, it does mean we should curb our expectations [22] for equity returns on a ten-year view. Especially given the big proportion the US makes up of global tracker funds [23]. (Around two-thirds).
This isn’t like after the global financial crisis, when you could feel fairly confident you were buying up bargains [24].
On the other hand, much of the rest of the world’s equities look fairly valued. And my own income preference – to lean into equity income trusts – would see my hypothetical portfolio very tilted towards UK equities, which seems a pretty good place to be. The UK market has only just started coming back into favour [25].
But most importantly, far higher bond yields – and the repricing away of crash-risk in these assets – means you can diversify a portfolio without feeling like you’re sitting on a box of nitroglycerine.
I’d far rather start from here than there [1]!