Unpacking Pension Lifestyling: The Hidden Risks of This ‘Low-Risk’ Retirement Strategy

Lifestyling is an investment strategy that remains largely unfamiliar to many, yet it plays a significant role for employees as they approach retirement. This strategy can pose risks, particularly when bond markets are unstable, potentially leading to substantial losses in pension funds for older workers. Consequently, some may find themselves having to postpone their retirement plans.

As retirement nears, pension scheme participants often witness a transition of their investments from stocks to bonds, traditionally considered a safer bet. This approach, known as lifestyling or de-risking, can vary in its implementation, making it essential for individuals to communicate with their schemes and stay informed about any updates or changes.

It’s crucial to pay close attention to any correspondence from your pension scheme, especially in the final decade before retirement. The investment strategy employed during this period can significantly influence the size of your pension fund.

Lifestyling primarily affects individuals with ‘defined contribution’ pensions, where they accumulate a fund for retirement. It does not impact those with ‘defined benefit’ or final salary schemes, where the employer is responsible for providing a guaranteed lifetime income.

Of course, you should always read anything that arrives from your pension scheme. But it is more crucial in the decade or so before retirement age, as the investment approach being used could have a big impact on your eventual pension fund.

Note that lifestyling affects people in ‘defined contribution’ pensions, where you build a pot invested for retirement, not ‘defined benefit’ or final salary schemes, where an employer is responsible for paying you a guaranteed income for life. 

What do you need to know about lifestyling?

Your pension scheme will ask you about your plans and choices regarding your retirement date, and whether you want to a) take your pension pot as cash; b) use it to buy an annuity and get a guaranteed income for life; or c) keep it invested in an income drawdown plan.

Not answering means you are likely to be defaulted into whatever investing strategy your scheme deems most suitable before you retire.

Anyone who wants to keep their pension fund invested perhaps for decades to come in retirement might want to consider whether it is better to opt out of ‘lifestyling’ altogether and stick with stocks, which are riskier but have more potential for long-term growth.

On the other hand, when bond prices plummet this creates opportunities for new buyers, so starting to move into them then might be great timing for people just starting the lifestyling process.

It is worth stressing that the employers and pension firms running workplace schemes ‘lifestyle’ funds with only the best of intentions for their members.

The idea is to protect savers against abrupt downturns when they are just about to start tapping their pensions.

Meanwhile, there can be an upside for savers when bond markets take a hit, because if interest rates are high or on the rise at the same time that makes annuities a more attractive option.

So, what if your pension hasn’t started being lifestyled yet, but you want to know more and be forearmed about what is to come?

Or what if you have just realised you are midway through the lifestyling process already and want to know whether to stick with it, or are on the brink of retirement and need to know your options now? 

We asked pension experts to explain all the practical ins and outs.

When does pension lifestyling typically start?

Usually this happens between six and 10 years from the retirement age you have either chosen or your workplace scheme has selected for you.

Whether you are in an in-house employer scheme, or one run by a big pension firm or mastertrust, they are likely to notify you before you enter the de-risking phase, so you have the chance to opt out.

If you haven’t heard from them about this, check your personal pension details online or give your scheme a ring to find out the start date.

It’s really important people think about their selected retirement age or the age that they’ve been defaulted to if they didn’t select one.

Workplace pension provider Aegon says it starts lifestyling – changing the asset allocation of a pension – from six years from someone’s chosen retirement date.

‘This timeframe can vary depending on the product and strategy the customer is invested in, and will be automatically updated if a customer chooses a different retirement date.’

Lifestyling might begin automatically after you have received a letter, so you need to be on the lookout and be ready to make decisions.

Aegon says its letters encourage members to review their pension, consider their retirement goals, and check they are in the right investment strategy.

‘It’s vital that customers read all the information sent to them by their pension provider, and seek help from a financial adviser if they don’t understand or call their provider for more information,’ adds the firm.

Will you be completely moved out of stocks and into bonds or cash?

A full transition out of stocks used to happen before the pension freedom reforms in 2015.

Following the reforms, many people have started living on an invested pension fund in retirement, instead of using their entire pot to buy an annuity.

Therefore, most schemes do not move people totally out of stocks and into bonds and cash by their expected retirement date. 

But you might still end up with an unsuitable portfolio if you intend to stay invested.

Aegon says it gives people three main options on what to do with their money at retirement: buy an annuity; take it as cash; and withdraw it flexibly.

‘The asset mix or investments held for each of these three options will vary. For example, a lifestyle fund targeting an annuity will generally move to mostly bonds and cash.

‘This is because bonds and annuity rates have an inverse relationship (when bonds fall, annuity rates typically increase and vice versa) which gives greater certainty as to the level of annuity you can purchase.

‘If you’re targeting cash, the lifestyle will move to mostly cash. If you’re targeting flexible drawdown, it is likely to be a mix of bonds, cash, and stock markets.’

Dan Smith, head of workplace investing at Fidelity International, believes it is important for there to be a de-risking process during the approach to retirement.

This is in order for people to access higher risk assets early in life while diversifying closer to retirement.

‘De-risking is driven by the change in member objectives,’ he says.

‘While a younger member is focused on growth with a high tolerance to risk, someone entering a drawdown product needs a more diversified growth strategy, but with less volatility and potentially an income target.’

If you stay invested in a income drawdown scheme in retirement, you need to reduce volatility because making withdrawals during more negative market conditions can have such a significant impact on your fund, explains Smith.

‘This can have a detrimental impact on the expected life of a drawdown pot in supporting an individual’s retirement and most drawdown strategies look to provide some stability to limit the impact of this risk.’

What if you want to opt out of lifestyling?

If you plan to stay invested throughout retirement, you might prefer to stay with riskier stocks, although as explained above you should still bear in mind the need to have a balanced portfolio and how you will manage withdrawals during periods of market upheaval. 

Nevertheless, you might want to make choices on this yourself rather than have them taken over your head.

It depends on your scheme, but if you want to opt out of lifestyling entirely you will probably have to move out of its default fund and invest in some of the other funds that it offers.

Workplace schemes run by external pension firms typically have a ‘walled garden’ of funds to choose from, but check the charges as they might be more expensive than the default one.

If your employer has an in-house scheme then check its policy on lifestyling and let its administrator know if you would like to opt out, either online or by phone. 

Can you halt lifestyling midway through the process?

‘Some people who have already been lifestyled may wish to manage their pensions on their own,’ says Dan Smith of Fidelity.

‘They have the option to opt out of their default strategy and instead choose their desired risk appetite and “self-select” their funds.’

But Smith warns the value of the investments in your pension and any income from them can go down as well as up, saying: ‘Pensions are a long-term investment and volatility is a normal part of long-term investing.

‘So, think carefully and consider talking to an authorised financial adviser before making any decisions.

‘Remember, withdrawals from a pension product aren’t normally possible until you reach age 55 (57 in 2028).’

Aegon notes that you can change where you are invested at any time, but you can’t backdate this.

‘The change will be made when you request it. Customers can either change their nominated retirement date to extend the lifestyle or change the whole investment/fund choice.’

If you are in your employer’s in-house scheme, they are likely to let you opt out of lifestyling at any time, but you will have to decide where else you want your money to go and tell the administrator.

What should you consider before your pension is lifestyled?

1. Whether the retirement date your provider expects matches with your own goals

‘If it is earlier than when they might actually retire, there is a chance they could de-risk earlier than is necessary and so leave some growth opportunities off the table,’ says Smith.

‘Those approaching retirement should keep their pension provider updated with their planned retirement date to ensure the de-risking is targeting the right age.’

If you are de-risking via a ‘target dated’ fund, its name will quite literally make you aware of the retirement date that the strategy is designed toward, he points out.

2. Attitude to risk and personal objectives

‘Not all drawdown strategies should look the same and should be tailored towards the individual’s objectives,’ says Smith.

‘The decision to avoid lifestyling is an active decision, reflecting your own attitude to risk, akin to selecting your own investments.

‘It is important for individuals to be confident in the investment decisions they are making or to seek advice from an appropriate adviser if not.’

3. Paying for financial advice

Whether you opt to have your pension lifestyled is just one part of an overall investment strategy, says Aegon.

‘Capacity for loss, attitude to risk, tax considerations and future contributions are just a few factors to consider when selecting your own investment solutions.

‘Obtaining financial advice can be invaluable in ensuring all these are considered and the right option is selected for you.’

Have annuity deals recovered enough to offset bond losses?

Annuities provide a guaranteed income until you die. But they were shunned for years due to poor rates and restrictive conditions, and after gaining a bad reputation on the back of annuity mis-selling scandals.

Most savers now keep their funds invested and live off withdrawals instead, despite the financial market risk involved.

However, interest rate hikes in recent years have meant annuity providers can afford to fund much more attractive deals, prompting a resurgence in sales.

Aegon says buying an annuity depends on matters such as if you want one for yourself only, or for you and your spouse, or if you have underlying health conditions.

On the brink of retirement, already lifestyled and sitting on losses…? 

So, what are your options aside from buying an annuity? Aegon’s head of pensions, Kate Smith, offers the following tips.

– Stay invested for a longer: Doing this has the potential to give your pension more time to recover.

– Delay retirement: Keep on working and saving. While you are working, as long as you continue to pay pension contributions, so will your employer, boosting the amount invested.

– Consider working part-time: Doing this while transitioning to retirement means you’ll receive an income and still benefit from employer pension contributions and reduces the amount of money you need to draw from your pension.

– Make smaller withdrawals: This can help to protect your pension pot and give it more time to recover.

– Use other assets first: Instead of taking out your pension, use other assets first to provide an income in retirement, for example cash savings.

– Track down your old pensions: You could be missing out on money you’ve saved in workplace pensions from your previous employers that you’ve lost track of or forgotten about. 

Check for any old pensions paperwork you might have around the house in the first instance. If you can’t find anything, then get in touch with your former employers to get the details of any old pension pots you might have – or try using the Government’s pension tracing service.

– Check your state pension amount and date: The current full amount you can receive from the state pension is nearly £12,500 per year (£241.30 per week) – but not everyone is automatically eligible for the full amount,

Look at the Government’s state pension forecast webpage to find out how much you might receive and when you’re able to claim from. And if you have any gaps in your National Insurance record look at how you can fill them to get the full state pension.

– Get help if you need it: MoneyHelper is a Government-backed website offering free, impartial guidance on all kinds of money topics.

Financial advisers are experts who can provide personalised advice based on your individual circumstances.