Marc André Castonguay, CFP, CIM
July 2023
Planning for retirement is much more than making a financial projection with an online calculator.
Retirement has a different meaning for everyone. Some view this milestone as a time to relax and enjoy life in their community, others will want to travel and tackle new projects. No matter how you view retirement, some risks can affect everyone and need to be taken into consideration in a retirement plan. Here are some of the principal risks to consider.
1. Longevity risk: Longevity risk is linked to the uncertainty of how long you will live after retiring and possibly running out of money. With life expectancy getting longer, your retirement savings need to last longer as well. In Canada, the Canada Pension Plan and Old Age Security pension helps in addressing this risk, but for many, it is not enough. Furthermore, professionals and business owners who don’t have a lifetime pension income from their employer are more exposed to longevity risk. A well-structured retirement plan should include a longevity analysis to address this risk.
2. Healthcare and long-term care costs: While living longer is positive, it can also mean a greater chance of experiencing health issues. We are fortunate in Canada that essential medical services are covered, but it may not include all expenses related to long-term care, prescription drugs, or certain medical treatments such as dental care, physiotherapy, etc. Health insurance coverage and planning for these potential costs will help manage this risk.
3. Inflation risk: Inflation is the gradual increase in the cost of living over time. We have felt this over the last year as inflation reached highs not seen in decades. But even when inflation is around the targeted level of 2%, it erodes the purchasing power of your money and impacts your expenses over the long term, making it crucial to consider inflation when planning for retirement. Diversifying investments and including inflation in your retirement projections will help safeguard your retirement savings against inflation risk.
4. Investment risk: Whether it is market volatility that impacts stocks or changes in interest rates that impact bonds, GICs and real estate, investment risk can affect your retirement income if not addressed. Planning for this risk will be based on a variety of personal factors, such as financial goals and risk tolerance. But a well-diversified portfolio will help mitigate investment risk. If you don’t have a lifetime pension benefit from your employer, diversifying the sources of income by buying a life annuity, which guarantees a lifetime income, could make sense.
5. Sequence of return risk: The sequence of returns refers to the order in which investment gains and losses occur. Significant investment losses early in retirement will have a bigger negative impact on retirement income for the entire period than if these losses occur later in retirement. This is because withdrawals for living expenses in the early years, combined with poor market performance, can lead to a reduced overall portfolio value, making it harder to recover sufficiently to provide income in the later years of retirement. Your financial planner can include a stress test to measure the potential impact of this risk in your retirement plan. Being willing and able to reduce expenses in retirement during downturns can also help manage this risk.
6. Lifestyle and spending risks: While all the risks above are out of your hands, this is the risk over which you have full control. It can also be the most impactful risk. Investment returns can rarely make up for years of overspending or succumbing to unnecessary expenses. It’s important to strike a balance between enjoying your newfound freedom and maintaining financial discipline. Creating a realistic budget that is in line with your retirement plan and living within your means will help you enjoy retirement without jeopardizing your financial security. Maintaining an emergency fund for unforeseen expenses is also a good idea.
Planning for retirement is much more than making a financial projection with an online calculator. Life doesn’t move in straight lines, so it’s important to recognize the potential risks and plan for them. Seeking advice from a qualified financial planner can provide personalized guidance and ensure that your retirement years are enjoyable and financially secure.
Author:
Marc André Castonguay, CFP®, CIM® is Director of Financial Planning with Louisbourg Investments. Comments or questions may be submitted to him at marcandre.castonguay@louisbourg.net.
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This writing is for general information purposes only and is not intended to provide legal, accounting, tax or personalized financial advice. If you are not sure how to proceed with a request for further information, seek help from a professional. Any opinions expressed are my own and may not necessarily reflect those of Louisbourg Investments.
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