People nearing retirement are urged to check their pension pots as they could be hit by higher government bond yields
People nearing, or at retirement, have been warned that higher borrowing costs could hit their pension savings, particularly if they are planning on drawing down their cash.
Yields on government bonds- which reflect the cost of government borrowing -have risen to 4.89 per cent for 10-year gilts, the highest level since 2008.
In the lead up to some people’s retirements, their pension provider will sometimes do something known as ‘lifestyling’ – also known as being “derisked”.
This is where investments are changed, generally to those that involve lower risk, and can mean money being moved from equities – shares in companies – to bonds.
But bond prices move inversely to their yields, so higher rates mean that the market value of the bonds may well have fallen significantly.
Experts have warned that for those approaching retirement and not planning on buying an annuity – a set income for life – with their pension savings, they could see the value decrease.
Sir Steve Webb, former pensions minister and partner at LCP, explained: “Back in the days when people had to buy an annuity with their pension pot, it made sense to gradually move assets into what is called an ‘annuity matching’ investment strategy.
“The idea is that people want some predictability about what income they are going to get in retirement so if their pension pot is invested heavily in gilts or bonds in the run-up to retirement then they are insulated from fluctuations in gilt prices.
“If, as at present, the value of their fund goes down, then it doesn’t really matter because the interest rate they can get via an annuity will go up. The two offset each other and as a result their income in retirement is as expected.
“The problem comes if you are heavily invested in bonds in a world where you are not going to buy an annuity. In this case you have the downside of falling capital values of your asset but no real upside of a higher income in retirement.”
Sir Steve explained that those approaching retirement could choose to work a little longer to offset some of the reduction in the value of their pot.
But he added: “But for those in post-retirement who thought that investing in bonds was a low-risk strategy they can find that the value of their pot has dropped sharply and there’s not much they can do other than reduce the rate at which they are taking money out of the pot in order to give it time to recover.”
He said although there was less “lifestyling” now, pension schemes and providers do have a tendency to ‘derisk’ by moving out of things like equities and into things like bonds as people age, so many people in work will have seen a drop in the value of their workplace pension.
Other echoed the comments, with financial planner David Hearn writing on social media: “If you are in your 50s check to see whether your current or past workplace defined contribution pensions are ‘lifestyled’.
“If so, these rising government gilt yields, could be killing the value of your pension. Perhaps not a problem if you’re about to buy an annuity that will benefit from those rising gilt yields, but if you are planning to take a tax free cash lump sum, or start drawdown.”
Experts warned that people should not panic, however.
Helen Morrissey, pensions spokesperson at Hargreaves Lansdown, said: “It’s important not to make knee jerk reactions. If you are coming up to retirement and are thinking of going into income drawdown then it might be a good idea to delay taking an income if possible until the markets have recovered.
“If you are in the market for an annuity then the increase in gilt yields that we are seeing can actually push up the incomes available from an annuity and so the effect is softened – a flexible approach is key.”
