Building a better retirement nest egg.

PERSPECTIVES insights.ideas.results. 1514 PERSPECTIVES
IN SUMMARY
>> While energy prices have recovered
a few times over the past year, they
remain below what producers need
to drill profitable wells.
>> The decline in oil prices has
significantly dampened investor
sentiment about oil-exporting
emerging market economies, and
could lead to substantial volatility
in financial markets as was
observed in a number of countries
during the last quarter of 2014.
>> However, declining oil prices also
present a significant window of
opportunity to reinvigorate reforms
and diversify oil-reliant economies.
>> Over the medium-term, oil prices
are projected to recover from their
current lows, but are expected to
remain below recent peaks and
witness considerable bouts of
volatility. The pace of the recovery
in prices is likely to depend on the
speed at which supply will adjust
to weaker demand conditions.
>> US shale oil producers, with their
relatively short production cycles
and low sunk costs, may see the
greatest adjustments in the short-
term.
>> Over the longer term, adjustment
will take place from both
conventional and unconventional
sources through cancellation of
projects.
>> While supply is likely to be
truncated, ongoing demand will
be underpinned by recovering
global activity in line with broader
demographic trends.
JEFF ROGERS
CIO iPac and Head of
Investment Solutions
Multi-Asset Group
CONTRIBUTING AUTHORS
STEPHEN FLEGG
Portfolio Manager Multi-
Asset Group
INSIGHTS.IDEAS.RESULTS.
‘The question isn't at what age I want to retire, it's at
what income.’
- George Foreman
BUILDING A BETTER
RETIREMENT NEST EGG
In 1970, the average person in the OECD spent two
years in retirement; by 2012 this had increased to
15 years. Many workers in the developed world now
spend as much of their life out of the workforce
as they do in. Given this seismic change, saving
enough for retirement is a pressing global issue for
individuals as well as policy makers.
KEY POINTS
Our analysis suggests that the
amount an individual contributes to
their savings and the rate-of-return
on their investment contributes
similarly to the size of their savings
at retirement. However, there are a
number of additional dynamics at
play that can affect the absolute size
of the retirement nest egg:
>> The sequencing of savings
contributions
>> The tax treatment of savings and
investment returns
>> The asset allocation of their
investment strategy
>> The sequence of investment returns

In Australia, as people live longer than ever before there has been a marked
increase in the number of people who are delaying
retirement to the age of 70 or beyond, partly
reflecting changes to the qualification age for
the age pension. A recent report from the
Australian Bureau of Statistics (ABS) on
retirement and retirement intentions
observed that 47% of people
already retired are dependent
on a government pension or
allowance as their main source
of income. The corresponding
increase in the burden
on public finances, and
subsequent moderation
of government spending
on the age pension, has
made increasing the size
of private retirement
savings a key priority for
both the government
and individuals
approaching
retirement.
This paper examines the
factors that influence the
size of a person’s retirement
nest egg by analysing the
experience of Australian
workers during the past 25 years
since the modern compulsory
superannuation system was
adopted. The paper also outlines
a number of ways current workers
can contribute to increasing the
size of their retirement savings and
enjoy a higher income after leaving the
workforce.
SAVING FOR RETIREMENT:
WHAT MATTERS MOST?
Our analysis of the factors driving the size of the savings balances
at retirement is based on a standard worker who works fulltime
from age 20 and receives average earnings that grow at the historic
wage growth rate of 3.5% per annum (p.a.) as measured by the ABS.
We also assume that the worker invests in a traditional balanced
fund, which is proxied by the average of the Morningstar Growth
Category.
Contributions versus investment returns
Based on the experience of Australians during the past 25 years,
the size of a worker’s savings at retirement is overwhelming
dictated by two things: how much they contribute and the rate of
return on their investment.
For the average worker, approximately 60% of their retirement
nest egg is attributable to investment returns, with the other 40%
directly attributed to their contributions to savings. Analysis of
investment returns shows that the vast majority (more than 90%)
of returns are associated with the asset allocation (risk profile)
chosen by the worker with only a small percentage attributable to
active management.
Figure 1: Retirement savings – where do they come from?
Source: Morningstar, AMP Capital
GOALS-BASED
PERSPECTIVES:
RETIREMENT GOALS INFORM PRE-RETIREE
STRATEGIES
Building a sufficient retirement nest-egg is in itself an
intermediate goal. The ultimate purpose of the nest egg is to
fund a person’s lifestyle in retirement.
While it makes sense for young accumulators to concentrate
their asset strategy on building wealth for the future, it is
appropriate that older workers also focus their strategy on
the timing and priority of spending goals in retirement. These
spending intentions should influence investment strategy in
the lead up to retirement and post-retirement.
For instance, if the intention is to withdraw a lump sum at
retirement to pay out the residual mortgage on the family
home, then it makes sense to progressively de-risk the strategy
on that portion of the capital required to meet this goal.
Alternatively, some retirees may wish to allocate capital to
fund future bequests to support family members or charities.
The time horizon associated with these goals is likely to be
long term, which argues for a re-risking of the capital funding
these goals.
For most retirees, however, the bulk of their nest egg will be
assigned to fund essential and lifestyle goals in retirement.
In this case, a relatively seamless continuation of the multi-
asset strategy designed for pre-retirement (that accounts
for any change in tax status) may be appropriate to carry
into a post-retirement investment strategy. In the early
years of retirement, a retiree should allow some flexibility to
adjust some of their discretionary spending in response to
portfolio outcomes. This will help ensure that cash flows are
sustainable over the long term.
Given the diversity of spending intentions post-retirement,
this article has a focus on pre-retirement accumulation with
a particular emphasis on young and middle-aged workers. As
accumulators approach retirement, their investment strategy
should become more nuanced and tailored to address specific
spending intentions and goals.
Contributions 41%
Investment Returns (Asset Allocation) 51%
Investment Returns (Active Management) 2%

SEQUENCE OF CONTRIBUTIONS: THE IMPORTANCE OF
EARLY TAX-EFFECTIVE CONTRIBUTIONS
Not all contributions are equal when it comes to saving for retirement. We have used
the experience of a standard Australian worker invested in a traditional balanced fund
during the past 25 years, receiving annualised return of 6.5% p.a., as a guide. Due to the
compounding of returns, each dollar contributed into savings at age 20 grows in real terms
to be worth just over $6 at retirement.
It is important to note, however, that the magnitude of this compounding is greatly
affected by tax treatment of returns. For the same individual with the same returns,
subject to a 30% tax rate, a dollar saved at age 20 only grows to be worth $2.60 in
real terms at retirement. Compounding returns over time disproportionately benefits
individuals who contribute to their retirement savings early in their careers and utilise tax
effective saving vehicles. The exponential nature of this relationship is illustrated in figure
2.
It is important to note that while young people will benefit the most from utilising a tax-
effective savings vehicle, this gain needs to be considered against the cost of losing access
to savings for a longer period of time.
$0
$1
$2
$3
$4
$5
$6
$7
20 30 40 50 60
Age
Tax Free 15% Tax Environment 30% Tax Environment
Figure 2: Real value at retirement of $1 contributed to savings at different ages
Source: AMP Capital.
Making contributions to retirement savings early in a career
is important. Individuals who take long periods of time away
from the workforce early in their career have significantly less at
retirement then those who remain employed. Figure 3 depicts
the expected shortfall in retirement savings versus a full-time
worker with no career breaks at differing ages. A person who
leaves the workforce for a decade at age 25 is forecast to retire
with almost 30% less than a worker who remains in the workforce.
However, if the same period of absence from work had begun at
age 50, the relative shortfall would be roughly half as much at
approximately 15%. People who take time out of the workforce
early in their careers, perhaps owing to family commitments, to
travel or to pursue studies, are expected to have retirement savings
significantly lower than peers who stay employed. Catching up
with these peers is difficult as they not only need to make up for
the early contributions they missed out on, they also need to make
additional contributions to make up for the compounding tax-
advantaged investment returns that their peers received.
Figure 3: Shortfall in retirement balance from a 10-year absence
from work (relative to a fulltime employee) at different ages
-35%
-30%
-25%
-20%
-15%
-10%
-5%
0%
20 25 30 35 40 45 50 55
Shortfallinretirementbalance
Age
Individuals who take long periods of
time away from the workforce early in
their career have significantly less funds
at retirement compared to those who
remain employed.

INVESTMENT RETURNS: THE IMPORTANCE OF ASSET
ALLOCATION
Given that approximately 60% of retirement savings are attributable to investment returns,
it’s important to understand what’s driving that return. Our analysis indicates that the
most significant factor affecting the magnitude of returns is the asset allocation/risk
profile of the investments.
The experience in Australia highlights that investors with a higher tolerance for risk, that is
greater exposure to growth assets, enjoy higher returns over the long term (as depicted in
figure 4). Since 1990, the average growth investor has received cumulative net investment
returns that are approximately 63% higher than investors who kept their savings in cash.
Figure 4: Cumulative returns over time for differing risk profiles*
Source: Morningstar multi-sector category averages, AMP Capital. Benchmark indices: Morningstar Aus Msec Growth
TR AUD; Morningstar Aus Msec Balanced TR AUD; Morningstar Aus Msec Conservative TR AUD; RBA Bank accepted
Bills 90 Days. These returns assume distributions are reinvested. Past performance is not a reliable indicator of
future performance. Returns for periods greater than a year are annualised. Net performance is calculated after fees,
expenses and taxes.
-100%
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016
0%
100%
200%
300%
400%
500%
600%
Australia Multisector Growth Australia Multisector Balanced
Australia Multisector Conservative Cash
-20% 0% 20% 40% 60% 80% 100%
Multisector Conservative Investor
Multisector Moderate Investor
Multisector Balanced Investor
Multisector Growth Investor
Multisector Aggressive Investor
Returns from Asset Allocation Returns from Active Management
-100%
0%
100%
200%
300%
400%
500%
600%
Asset Allocation Active Management
Although the majority of returns for risk-based investors are attributable to asset allocation, active
management can still play an important role in improving retirement balances:
>> Our analysis of fund returns in the Morningstar database (post fees) indicates that active managers
contribute more value than their fees detract
>> Any value that managers can contribute in excess of their fees results in more money at retirement
for investors. If a manager can add 0.5% of value a year, as suggested by figure 6, an average investor’s
savings at retirement will be 15% larger. In dollar terms, this equates to an additional $150,000 to
$200,000 at retirement
Figure 6: Source of cumulative returns**
Our analysis of the source of returns during the last decade
reveals that 97% of all returns for a growth investor are
driven by asset allocation. On average, 3% can be attributed
to active management, although we have found good active
management still has a long-lasting, positive impact on
balances. We observe similar results across the various risk
profiles* as depicted in figure 5.
Figure 5: Sources of investment returns over the past 10-years
Source: Morningstar multi-sector fund category averages, AMP Capital. Benchmark indices: Morningstar Aus Msec
Conservative TR; Morningstar Aus Msec Balanced TR AUD; Morningstar Aus Msec Growth TR AUD; Morningstar
Aus Msec Aggressive TR AUD. These returns assume distributions are reinvested. Past performance is not a reliable
indicator of future performance. Returns for periods greater than a year are annualised. Net performance is
calculated after fees, expenses and taxes.
** Multi-sector growth fund average
Source: Morningstar, AMP Capital. These returns assume distributions are
reinvested. Past performance is not a reliable indicator of future performance.
Returns for periods greater than a year are annualised. Net performance is
calculated after fees, expenses and taxes.

As we have observed, not all dollars contributed to savings are
equal; similarly, not all returns or risk are equal either. Younger
savers have the advantage of having time on their side. Younger
savers are affected less by drawdowns because they have time
for investment conditions to recover and they still have future
contributions to make that aren’t impacted by the drawdown.
As depicted in figure 9, an investor who suffers a 25% loss of
capital at capital at age 30 is expected to have a 0.8% reduction
in their retirement balance as a result. Even at age 50, a 25%
drawdown is only expected to have a 7% impact on a savers
balance at retirement. At age 60, the impact has exponentially
increased to 17%.
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
0% 1% 2% 3% 4% 5% 6%
contributions/valueofretirementbalance
0%
200%
400%
600%
800%
1000%
1200%
1400%
1600%
1800%
1% 2% 3% 4% 5% 6% 7% 8% 9% 10%
Increaseinreturn
Real return (p.a)
0% 5% 10% 15% 20% 25% 30%
25
30
35
40
45
50
55
60
65
Percentage loss at the time of retirement of a 25% drawdown
Age
Due to the advantage of having time, young investors are relatively
immune to the negative effects of market corrections. Conversely
they also benefit much more from compounding returns than
older savers. High returns for younger investors help build a larger
pool of savings, which then compound at higher rates. Younger
investors also don’t have immediate access to their savings so are
also less likely to exhibit counterproductive behavioural biases such
as impulsively reacting to market weakness by withdrawing their
money from the market.
Young investors have a high capacity to bear volatility, have a
long investment horizon (which is often enforced by regulations
that prohibit access to their savings) and receive disproportionate
benefits from returns. Consequently, younger investors benefit
substantially from pursuing a more aggressive asset allocation
than older savers.
Figure 7: Proportion of retirement balance directly attributable
to contributions
Figure 8: Impact of an increase in retirement savings at retirement
(relative to 0%)
Figure 9: Percentage reduction of retirement balance due to a 25% drawdown at different ages
SEQUENCE OF RETURNS: A REAL RISK FOR PRE-RETIREES
a) The importance of early returns and late risk management
Our analysis suggests that individuals can increase the proportion
of their retirement savings attributable to returns by choosing
both an appropriate asset allocation and good active managers.
We estimate that if a person can increase the real return they earn
from 3.5% to 4.5% p.a. on their savings, they will have a nest egg at
retirement that is not only 31% larger, it is also 70% attributable to
investment returns versus 60% at the lower real return rate.
To put this into context, an individual who chose an aggressive
risk profile (more than90% growth assets) since 1990 received
investment returns that were 2.7% p.a. higher and would have
retired with a balance 300% larger than a risk-averse investor
who chose cash. In selecting an appropriate asset allocation and
a good active manager, individuals can reduce the reliance of
their retirement savings from direct contributions. The reliance
of retirement incomes from direct contributions is further
reduced if workers continue to stay appropriately invested after
reaching retirement.
Figure 7 depicts how the reliance on contributions versus returns
falls as the level of returns increase. At higher levels of real returns,
an individual’s reliance on contributions to drive the retirement
balance is reduced.
Investment returns contribute a large portion of the retirement
savings for workers and, due to compounding, an increase in
returns has an exponential effect on the size of balances at
retirement. This is shown in figure 8. The experience of the
standard Australian worker shows that the investors who fared
best over time were those who:
1. Stayed invested in the market. All investment categories
(conservative through to aggressive) delivered significantly better
returns than just staying in cash.
2. Invested in growth strategies early in their career and utilised
compounding of these higher returns to build their balances
3. Selected an appropriate active manager. An improvement in
returns of as little as 0.1% a year has a significant impact the
retirement balance once compounded over a working life
This analysis also suggests that having the right investment
strategy is particularly important for workers who are unable
to easily increase their contributions. By improving investment
returns, through an appropriate asset allocation strategy and
active management, the size of the total retirement nest egg is less
reliant on contributions

The probability of loss
sharply declines over
time for growth assets
such as equities.
Higher risk profile
asset allocations benefit
from more reliable
outperformance over longer
time horizons.
Figure 10: Historical probability of Australian shares delivering a
negative return and less than CPI +3%
Source: AMP Capital, Bloomberg, as at 30 June 2016, MSCI Australia Accumulation
Index in AUD. Past performance is not a reliable indicator of future performance.
0%
10%
20%
30%
40%
0 2 4 6 8 10 12
Probability
Investment Horizon (Years)
Probability of Underperforming CPI +3%
Probability of a Negative Return
50%
55%
60%
65%
70%
75%
80%
0 50 100
Probabilityofrisk-basedoutperfomnce
Months invested
b) The importance of the investment horizon
Many aspects of investing only hold true during the long term.
If you were to look at a short time horizon, say a day, shares
don’t reliably outperform conservative investments such as
cash. However, over longer time horizons riskier investments
consistently outperform more conservative assets. For instance,
on a daily basis, shares deliver a positive return 53% of the
time. Over a longer six-year investment horizon, however,
the SP/ASX All Ordinaries Total Return Index since inception
has delivered a positive return 99% of the time for Australian
share investors. Similarly, there is no 10-year period on
record where the SP/ASX All Ordinaries Total Return Index
underperformed CPI+3%.
Historically, after dividends are captured in returns, the
probability of loss for equities sharply declines over time, as
depicted in figure 10. This dynamic has been coined ‘time
diversification’because over longer time periods, investors will
experience a variety of different market conditions.
Over a
longer six-year
investment horizon,
however, the SP/ASX All
Ordinaries Total Return Index
since inception has delivered a
positive return 99% of the time for
Australian share investors. Similarly,
there is no 10-year period on
record where the SP/ASX All
Ordinaries Total Return
Indexunderperformed
CPI+3%.
Comparing the performance of different risk profiles paints a
similar picture. Figure 11 depicts a mix of risk profiles and time
by capturing the outperformance of high risk funds relative to
low risk funds over given time periods. Over short time periods,
such as a month, funds with a higher allocation to growth assets
outperform 60% of the time. Over a five-year time horizon, higher
risk funds outperform 75% of the time. In order to reliably get a
benefit from moving out into higher risk profiles, investors must
have a long investment horizon, which (at a minimum) is greater
than five years,
Figure 11: Funds with a higher allocation to growth assets are more
likely to outperform over the long term
Source: AMP Capital. For illustrative purposes only.
Investors who have long investment horizons can typically rely
on the risk premiums of different asset class to consistently
deliver performance. They also are less sensitive to an enduring
drawdown due to the benefits of time diversification. For periods
less than five years, however, investors shouldn’t rely on a typical
diversified fund to deliver the performance they expect and could
consider alternative multi-asset styles of investing, which focus on
protecting against drawdowns.

IN SUMMARY
The experience of Australian
workers since the introduction of
mandatory superannuation in the
early 1990s highlights that both
contribution rates and investment
returns play an important role in
saving for retirement.
In addition to maximising the
amount of contributions an
individual makes, individuals can
significantly increase the size of
their nest egg by contributing to
their savings early in their career
and by utilising tax-effective
saving vehicles.
The major determinant of
investment returns during
an individual’s working life is
asset allocation.
Active management represents
a smaller proportion of the final
retirement outcome but can make
a significant difference to the total
dollar balance at retirement.
The sequencing of returns has
a large impact on the size of
retirement balances. Young
workers who have time on their
side and relatively small balances
should seek to maximise returns
by choosing more aggressive risk
profiles early in their working life.
Younger workers can rely on the
risk premiums of growth assets to
deliver excess returns over the long
term, and also benefit from those
excess returns compounding.
Older workers, who are more
vulnerable to market drawdowns
due to their larger balances, short
investment horizon and fewer
future contributions, should be
more aware of risk management.
They could consider non-traditional
multi-asset solution to protect
against drawdowns.
1 Retirement and retirement intentions, Australia, July 2014 to June 2015, Australian Bureau of Statistics,
Cat No: 6238.0
JEFF ROGERS
CIO iPac and Head of
Investment Solutions
Multi-Asset Group
CONTRIBUTING AUTHORS
STEPHEN FLEGG
Portfolio Manager Multi-
Asset Group
INSIGHTS.IDEAS.RESULTS.
“There are two main drivers of asset class returns - inflation and
growth.” – Ray Dalio, CIO and founder of the investment firm
Bridgewater Associates, excerpt from the Council on Foreign
Relations, September 12, 2012
THERE’S NO ESCAPING
A LACKLUSTRE RETURN
POTENTIAL
In this paper, we discuss the medium-term return
potential from major assets and the implications for
investors.
KEY POINTS
Low and falling investment yields
from most major asset classes point
to a constrained medium-term
return outlook.
For a diversified mix of assets, the
medium-term return potential is
around 6.9% on our projections.
In the current environment of low
inflation, the key for investors is to
have realistic return expectations,
focus on asset allocation and
consider assets that offer
sustainable income.

Building a better retirement nest egg.

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