Sequence-of-returns risk in the management of retirement savings
Sequence-of-returns risk in the management of retirement savings

Summary/Abstract: The purpose of the paper is to show the importance of the sequence-of-returns risk in the management of retirement savings. In the process of regular accumulation and withdrawal of savings, the sequence-of-returns risk may lead to significantly different results when it comes to the accumulated assets and benefits paid to people with the same saving history and realised average investment rates of return. The sensitivity to sequence risk increases along with the growth of the accumulated pension portfolio. The peak sensitivity period has been termed the retirement risk zone and, according to the results of a series of analyses, covers a dozen or so years before and a few years after retirement. The impact of the sequence of returns is very important in a defined contribution pension systems where investment risks are borne by individual investors. At the same time, the risk of sequence of returns is the most poorly recognised and analysed risk in the process of retirement saving. The planned introduction of employee capital plans in Poland inspired the analysis of the impact the sequence of returns on the Polish market has on the accumulation and withdrawal of retirement savings. This paper presents the results of research into the impact made by the sequence of returns on retirement assets accumulated on the US, Japanese and Australian markets. These show considerable diversity among the accumulated assets and the replacement rate of retirement savers resulting from the overall effect of historical market volatility and the sequence of returns. The purpose hereof is to demonstrate how, in Polish conditions, the behaviour of contribution parameters that have a decisive impact on the saving results and rates of return may affect the accumulated assets and withdrawn benefits. Simulation of a potential participant in employee capital plans confirms a very high sensitivity to the sequence of returns over the period of the retirement risk zone. It is a critical trait that must be taken into consideration while determining the glide path in the phases of saving and distribution of benefits. The sequence-of-returns risk should also be taken into consideration while assessing the efficiency of investment strategies in the management of retirement savings.

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