2023 Australasian Actuarial Education and Research Symposium

Shams Mehry

Australian National University

The dynamics and interactions of the building blocks for retirement income

This is joint work with Adam Butt, Gaurav Khemka

The worldwide shift away from defined benefit pensions towards defined contribution (DC) pensions is causing a transfer of investment and longevity risk from pension providers onto retirees, given DC pensions do not provide guarantees on what payments retirees can expect to receive. Hence, effective retirement income planning is crucial to ensure that assets accrued over one's working life are sufficient in providing reasonable income in one's retirement. This paper seeks to break down the retirement income planning problem from the perspective of four building blocks: mortality credits, investment strategies, drawdown schedules, and pension income. Utilising this breakdown, the paper will explain how each of these building blocks interact to form a retiree's overall retirement income portfolio, and what trade-offs exist between these building blocks that the retiree must consider. We consider a retiree's behaviour under a power utility framework and allow them to invest their wealth in three structures: one offering deterministic mortality credits, one offering stochastic mortality credits, and an account-based pension which does not offer mortality credits, but does offer complete flexibility in drawdowns. The retiree can choose an investment strategy across a risky and risk-free asset, and can utilise a self-financing options trading strategy to smooth their investment returns. This retirement income planning problem is analysed under three different pension systems: no pension, a fixed pension, and a means-tested pension. The results of this analysis highlight the contribution of each building block towards a retiree's consumption through retirement, along with what interactions and trade-offs they present.