Impact of Covid-19 on pensioners

What should investors do?

RYK VAN NIEKERK: Local and international markets crashed during February and March and the downward trend might not be over as significant uncertainty remains as to how the Covid-19 virus will reduce economic activity both internationally and in South Africa. Now this crash would have put a dent into most investors pockets but it is pensioners that are potentially the hardest hit, especially pensioners who are dependent on living annuities for income. On the line is Jaco van Tonder, he is the director of advisory services at the asset management firm Ninety One.

Jaco, thank you so much for joining me. How worried should pensioners be?

JACO VAN TONDER: Hi Ryk. I think in addition to having to be worried about their increased risk of complications from contracting the Covid virus, I’m afraid pensioners are also increasingly realising what the impact had been of recent market movements. I mean, the three months to the end of March investment performance figures are starting to flow into the press now and we can see incredibly wild gyrations on various funds, which many pensioners would have been invested in.

We can see that even in balanced funds, where there’s only 60% or 70% in equities, the range of performance numbers over the three-month period goes as far negative as -20% and the best funds are marginally positive at 1% or 2% over the three months. So actually most pensioners, if they’re going to be getting a statement from the living annuity in the next month or couple of weeks, they’re going to find the capital value has diminished, probably in the region of 10% to 12%, which seems to be about the average.

So that I think will jolt a lot of pensioners into some type of action, thinking that surely there must be something that they can do in response to this. I think that’s where our conversation of today really wants to focus on, and should people be doing something – and, if so, what should they do?

RYK VAN NIEKERK: Well, you’ve asked the question, should investors do something – and if yes, what should they do?

JACO VAN TONDER: It’s a very difficult position partly because of where we find ourselves today. There’s no real historical benchmark that we can use to try and project what markets are going to do. So let’s just look at the basics.

My kind of high-level suggestion to pensioners would be first of all to assess whether your annuity was healthy to start off with.

So what do I mean by ‘Was it healthy?’ What I mean by that is: if you’re younger than age 70 where you’re drawing a responsible income of something like 5% or maybe 6% or less; and if you’re older than 70, what was your income – 8% or less? – then at least it’s a responsible income. Did you have adequate exposure to equities, 50-60% minimum, and did you have at least 20-30% offshore exposure?

If the answers to those questions are generally yes, for that category of pensioners, I would say you should actually not be doing anything to your annuity. And the reason quite simply is that because we don’t know what markets are going to do from this kind of wildly volatile point on forward, anything that you do to your annuity is as likely to be detrimental as beneficial.

So it becomes a bit of a gambling situation and therefore if you have a responsible annuity, I would say you would be best served doing nothing to the portfolio. However, a lot of people might not be in the position where their annuities are in line with the benchmarks I’ve given at the start. And those are the people who, I think, the question is much more pertinent [to]. So let’s start with people where the income draw is too high. If your income draw was too high, I think that should get attention immediately.

RYK VAN NIEKERK: What is too high?

JACO VAN TONDER: So the number I quoted at the start, your income draw: if you’re younger than age 70 and you’re drawing more than 6% or 7%, you’ve got a problem. If you’re older than 70 and you’re drawing more than 8%, 9%, 10% or double digits like 11% or 12%, you’ve got a problem, and in that case it’s critical.

If this annuity is the key and only, or main, income source for a pensioner, it’s critical for the pensioner to look at some way of being able to reduce that income draw.

There’s lots of research that shows that after market collapses, being able to not take an increase or even reduce your income has a disproportionately positive effect on the longevity of that annuity. Now it’s difficult to do because regulations kind of prohibit people from making changes to their pension income whenever they want to.

The next three to six months are key

There are lobbying efforts in the market underway between industry and the regulator, to get the regulator to allow people to do income reductions at the moment because of the wild response to markets.

So we are confident that there will be perhaps some announcement about that. But when that does happen, people should take the opportunity, if they’re drawing too-high an income, to try and reduce that income and find alternative sources of revenue to kind of see themselves through the next three to six months because that’s really where the big uncertainty is.

The confidence interval about what markets are going to do and what the economy’s going to do over the next three months is so wide that it’s really impossible to make any kind of informed decision.

RYK VAN NIEKERK: Yeah, it’s not easy to do. I think many people do not have the option of reducing the drawdown or the income they need to survive, but of course you know, markets do decline. But is there any short term thing you think investors can do, just to manage the living annuity to limit the short term damage? Of course, I think many people can reduce the income requirements in the short term, but not in the long term. Would you advise any proactive steps now for pensioners to try and preserve capital?

JACO VAN TONDER: Ryk, the markets have fallen quite a long way already. This morning we were having a conversation with a number of our portfolio managers and just listening in from the side, it’s clear that there is no real consensus about how close we are to the bottom of the market. Even if you read a lot of well-publicised international research from big brand investment banks that is coming out every single day now, there seems to be quite a wide range of views on whether we are at the bottom of the market or not.

And as long as that uncertainty is in the market, any decision you take now could backfire.

Let’s take the obvious decision: switch to [a] money market [fund]. I mean, I think for many pensioners, when they open that statement or they get it in the mailbox and they see it, the first response is: ‘I need to stop this bloodletting and switch to money market’.

Well, what is the reality? The reality is that we know that government is going to be reducing the repo rate. Everyone is expecting a further 1% cut somewhere in the next week or two to help sustain the economy. Now that is going to feed through to money market rates immediately. So the money market rates that you would be seeing at the moment advertised in the press, those are useless. The rates are going to fall by another a hundred basis points for 1% and potentially even more.

So if you switch to money market now, you’re going to be switching into an asset class where the return is probably going to be 5%, if that much. And the question you’ve got to ask yourself is what is the rebound potential for my equity assets and my international assets from where we are today? And is that not bigger than 5%? And that’s what makes this question so difficult. That really becomes a gambling situation if you’re trying to bet at timing the bottom of this market. We’re in a [situation where even] highly paid international investment bankers are nowhere close to having consensus.

RYK VAN NIEKERK: So your advice is you sit on your hands and ride this out?

JACO VAN TONDER: I think unless your portfolio was really ridiculously invested – I mean, if you were all in cash before this, well done – I’d actually start thinking about potentially exposing some money to equities. But if you have gone through this crash and your portfolio has been 50-60% in shares on the way in, and offshore, and it’s moved up and down, and you’ve lost 10% of your capital, I’d say do nothing now. Your chances of making a big mistake is bigger than just seeing where this goes.

If you want to do anything, start thinking creatively about managing your expenses.

I think we need to accept that the structural damage to the South African economy, and the global economy, that is going to be caused by this crisis will have a far more ongoing longer-term impact. And that longer-term impact means that you know your future economic growth, and then the growth in earnings and the growth on the stock market, could remain muted for quite a long time, potentially a couple of years. And so people need to start thinking about how they manage their expenses in that type of environment.

RYK VAN NIEKERK: There are many people who will lose their jobs during this economic time of hardship and they will be forced to retire, and they will of course also be hit pretty hard. Do these people have any choices or things they should do prior to actually retiring?

JACO VAN TONDER: Ryk, I think if someone is in the unfortunate position where 31 March was their date for retirement or that they’re going to be receiving a notification of early retirement somewhere in the next three to six months, then clearly this is quite challenging. They would have suffered a 15% reduction in their pension fund value, these pensioners, or these potential pensioners, in the last three months. And therefore they’re retiring with a lot less money than they started off with. I think a good financial advisor would be able to help people work through the options, but broadly you’ve got two options if you’re in that position.

Two options

The first one is you are able to continue working and generating some income, in which case I think there’s value in buying time – and by buying time, I mean if you retire, stay in some kind of equity and market exposure so that if there is a rebound in the next nine months, that you participate in that rebound. History has shown that whenever a rebound does happen after a market crash, it happens very quickly and if you miss it, it’s over in a couple of weeks. So that would be the one strategy to take. And that is, if you’re able to earn some type of consulting employment [or] you’ve got other assets maybe to live off, keep the money in the retirement fund or in a preservation fund, and see if you’re not able to get some of that back.

If however you’re in a position where you are forced to draw an income, and financially you are completely dependent on that monthly salary and you are now retiring, I would consider seriously looking at what is happening in the guaranteed annuity space. But I think some of the life companies, the bond yields have moved significantly. It will be interesting to see what impact that has on the annuity rates that the life insurance companies would be promulgating. My only word of caution there would be to make sure we know that these current market conditions are going to put balance sheet strain on a number of big institutions as they try and manage their cashflow. So I would say if you’re going to be looking, in the next three months, at a guaranteed life annuity, look at one from one of the large balance-sheet life insurance companies; I would say one of the big four or five with the strongest balance sheets in the current market conditions. I think that would be a good option for someone who absolutely needs to get income in the next few months.

RYK VAN NIEKERK: You also have the option to buy a living annuity and then you have the option to take a portion of that offshore. Many pensioners have elected to take a significant amount or a significant proportion of the living annuity offshore. Do you think at the current exchange rate that is a good idea?

JACO VAN TONDER: Well Ryk, people who have had money offshore – on the offshore part of your portfolio, I can tell you in the last three months you would have had quite a nice return, especially if you had a balanced fund portfolio. You could have had up to 20-30% positive growth depending on which fund you had. Some had 10% or 11% or 12%, so all sort [have] already given you quite a nice number in the last three months because, primarily I think, of the currency effect that we see comings through.

If people are looking to increase their weight into offshore, you have to [consider that] the currency is a reflection of how attractive you look as an investment destination as a country relative to other countries.

So if we look at how South Africa’s position changed in the last month – and the reality is that the Moody’s downgrade has happened and we are a country that had already been under some financial strain prior to the crisis – my suspicion is that there will be big competition for international investment assets, and I don’t think South Africa as a country at this stage is yet ready to be an attractive investment destination.

So from that perspective, the currency where it’s trading at the moment at R18 to the dollar, might be with us for a while until there’s more certainty on the longer term South African financial position.

And so I’d say to people who are low on offshore and are looking to buy some protection, even at R17.50 or R18 [to the dollar] might be an option worth taking. You know, we’ve already lost; we’ve already leapt from R14.52 to R18, which is quite a substantial move. So you know, you always have the chance of a bit of a snapback. Although I think the consensus here at the moment is that the world has definitely changed, so for South Africa as country the fight is on to become attractive again as an investment destination, before we will see the currency strengthen.

RYK VAN NIEKERK: Jaco, thank you so much for your time. That was Jaco van Tonder, he is the director of advisory services at the asset management firm Ninety One.

Brought to you by Ninety One.

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