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How to manage your pension during stock market slumps

Updated 06 December 2022

6min read

Nick Green
Financial Journalist

The COVID-19 crisis has hit stock markets hard in recent weeks. This can be a serious issue for anyone relying on a pension pot, either near-retirement or post-retirement. What can you do to cushion the impact of a market crash? Article by Nick Green.

Coronavirus has hit pensions hard

The coronavirus has caused misery across the planet, claiming many lives and putting tens of thousands more in hospital. A less tragic, but just as real problem has been its impact on global stock markets. Falls in the FTSE and Dow Jones indices don’t just affect the traders of the stock exchange – they impact everyone, and especially anyone with pension savings. Quite simply, if you have a pension, you are an investor. So how is this turbulent time affecting your long-term finances – and is there anything you can do about it?

How the stock market affects your pension savings

If you have a defined contribution pension (most pension savers do), then your monthly contributions are paid into a fund that invests in the stock market. This fund usually achieves growth over the long term, but in the short-to-mid term its value can fluctuate wildly due to ‘booms and busts’. Up until the start of 2020, the market was enjoying one such boom period, and everyone’s pension savings were growing faster than average. Then the coronavirus crisis came along, and the markets suffered their second-biggest loss of all time.

If you still have a decade or more to go before you plan to retire, you don’t have to worry too much – historically, big stock market crashes usually rebound well in the following years. However, if retirement is only a few years away – or if you are already retired and now drawing your pension – the effects on you could be more noticeable.

What these effects will be, will depend very much on your particular circumstances. We’ll go through them one at a time.

Scenario 1: I have less than 10 years to retirement

Your pension savings will have taken a significant hit, but five to 10 years is still a reasonable time in which to recover. You can help the process along by taking action in good time.

  1. Talk to your financial adviser about how your pension fund is invested, and see if they recommend switching any of your investments to maximise recovery.
  2. Consider increasing your pension contributions. Every contribution is boosted by at least 25 per cent (effective rate) thanks to 20 per cent tax relief, and if you’re a higher rate taxpayer you can get even more. If your employer also matches your contributions, this can add up to a lot of ‘free money’ to help make up for stock market losses.
  3. Ask yourself whether you could postpone your retirement by a couple of years if necessary.

Scenario 2: I have less than 5 years to retirement

You may not have been exposed to the crash as much as you think, since your pension fund (or your financial adviser) may have moved your assets out of equities and into safer bonds in preparation.

However, if you did have some investments still in equities (stocks & shares) then your final retirement pot runs a risk of being lower than expected. Here are some steps you can take to tackle this issue.

  1. If you have other savings and/or investments, ask your financial adviser if it is a good idea to transfer some of those into your pension. They will benefit from a tax-relief boost, and could help your pension pot’s recovery to accelerate.
  2. Your IFA may recommend increasing your pension contributions. Your strategy may depend on the movement of the markets, but even at this late stage a small increase in contributions can make a difference to your final pot size, if it coincides with market recovery.
  3. Delay your retirement if you can, so you can put off accessing your pension pot until it has regrown some more.

Pensions expert William Burrows says that the key to making the right decisions now is to think ahead. ‘This is a crucial phase for pensions – invest too cautiously and you will lose out on growth, but take too much risk and you could see the value of your pension pot fall dramatically. One way of working how to invest in the years before retirement is to think about what options you might choose when the time comes. For example, if you plan to buy an annuity, investments should hedge against gilts and bonds, but if you’re aiming for drawdown it makes sense to continue investing in well diversified equity portfolios.’

Scenario 3: I am retiring now

Retiring right after a stock market crash is certainly not the best time, but you won’t necessarily have lost much if your pension fund was moved out of risky equities and into bonds. This should have happened automatically if you were in your pension’s default fund – talk to your financial adviser if you’re unsure.

If your pension has taken a hit, there are still things you can do to reduce the impact. If you can’t delay your retirement until the markets have recovered, consider the following.

  1. Do you have other assets (savings, investments, other income sources such as rent) that you could live off for a while? The longer you can leave your pension untouched, the greater chance it has to recover.
  2. If you have to access your pension, aim to live off your tax-free lump sum first (you get 25 per cent of your pot tax-free). Depending on its size, it could save you from paying any income tax for a year or more, giving more time for your pot to regain value.
  3. Most crucially, talking to an independent financial adviser about the best options for taking your pension.

Scenario 4: I have already retired, and I am using a drawdown scheme

This situation may be somewhat nerve-wracking, as you are currently reliant for income on a fund which will have shrunk visibly over just a couple of weeks. Your priority now is to limit those losses as much as you can.

  1. Taking money from a drawdown fund when its value is low makes it harder for that fund to recover later. Therefore, try to reduce your income to as low as you can manage, and live more frugally until the markets start to pick up.
  2. If you have any other assets (such as savings or your tax-free lump sum), use these to supplement your income so you don’t have to draw as much pension.
  3. Later, when markets are strong again, you could try taking a slightly higher income than you need, to build up an emergency fund for when markets fall again. ‘Make hay while the sun shines’.

William comments: ‘Drawdown is clearly at risk from falling equity prices, but a good adviser will be aware of this and discuss appropriate investment strategies. The biggest pitfall we call the “sequence of returns” risk.’

This is the risk that investment returns are lower than expected (or even negative) in the early stages of drawdown, meaning that your capital (the invested sum) is eroded faster than expected. This puts you at risk of running out of money.

To combat this, William suggests the ‘three bucket’ approach. ‘A good drawdown plan should include three key elements: cash for a few years of income, a growth fund, and a core portfolio that is diverse and errs on the side of caution. Plans with sufficient money in low risk assets should weather the storm, but those which are overweight in equities will take some time to recover.’

Scenario 5: I have already retired, and am using an annuity

You can put your feet up and pour yourself a drink. You might also want to a buy a drink for whoever advised you to buy that annuity. You won’t lose any of your pension income at all, since your annuity is guaranteed for life and is now completely unconnected to the stock market.

This isn’t to say that an annuity will always be the best pension option. During times of stock market growth, they can often look like poor value compared to the more exciting drawdown schemes. But as the coronavirus crisis has reminded us, the unexpected can strike anytime – and a 25 year retirement is a long time over which various crises can happen. There are times when a guaranteed income is almost too valuable to put a price on – and this may be one of them.

How can a financial adviser help me during the coronavirus crisis?

One of the big risks during any kind of crisis is that of panic, and making rash decisions as a result. A financial adviser can help you see the bigger picture, weigh all your options and take a balanced assessment of your risks. In particular, if you have family or other dependents to think about, your financial adviser can ensure that your plans cover them too.

Find out more about your options for taking your pension.

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About the author
Nick Green is a financial journalist writing for Unbiased.co.uk, the site that has helped over 10 million people find financial, business and legal advice. Nick has been writing professionally on money and business topics for over 15 years, and has previously written for leading accountancy firms PKF and BDO.