The value of expecting the unexpected
The unknown variables of retirement investingThere are at least two elements of the retirement planning equation that are fundamentally uncertain: market movements and the investor’s length of life. As an industry, we’ve developed tools and strategies to help anticipate investment opportunities and mitigate risks. But when it comes to estimating longevity, we face several challenges:
- No one can see the future (or if you can, please let me know).
- There are no perfect tools to predict longevity.
- Investors tend to underestimate their life expectancy.1
- Many investors prefer to dramatically dial down investment risk once they reach retirement, potentially limiting growth opportunities during what could be a lengthy period of their lives.
- The “Pick a number” approach
- The “Dust off the actuarial table” approach
- The “Break out the calculator” approach
|Longevity tool2||Number of questions||Projected life expectancy|
This information is provided for illustrative purposes only.
As you can see, the results of these tools vary widely. Going by these estimates, Amanda can expect to live between 78.2 and 93 years. If Amanda retires at 65, she is likely to find the difference between a 13-year retirement and a 28-year retirement financially significant.
The power of growth in retirement
In the absence of a perfect tool to predict longevity, I believe we have to add a fourth method to the list above: The “If you don’t know, you gotta grow” approach. In retirement planning, one of the ways you can potentially create a "bigger suitcase" of sustainable income is by not backing away from growth strategies in retirement — and yes, that requires some investment risk.
Many of your clients might be surprised to know that according to Russell Investments’ 15/35/50 Retirement Lifestyle Rule, 50% of an individual investor’s retirement income is likely to come from investment growth after retirement. That means that if a newly retired investor shifts their portfolio to a very conservative mix of fixed income strategies and cash, they may miss substantive growth opportunities that could help support their lifestyle in retirement.
But how much investment risk is the “right” level of risk? At Russell Investments, we believe that understanding each investor’s ability to accept market risk and generating a sustainable stream of retirement income requires careful consideration of the investor’s assets and future liabilities, or what we call the Personal Funded Ratio. Developing more customized retirement income projections for clients can help balance investment risk with longevity risk — or the risk of running out of money before they run out of life.
So in your next planning conversations, help your clients see that the length of their retirement journey may be unavoidably uncertain. But that doesn’t have to be a source of stress if they are “packed” appropriately.
The bottom lineSince we can’t perfectly predict longevity, it’s important to focus on helping investors to understand their options and build portfolios that deliver sustainable retirement income without eroding principal. Developing personalized retirement income solutions and incorporating growth strategies in retirement can be an essential part of the process.
1 Source: Society of Actuaries 2011 Risks and Process of Retirement Survey Report.
Tool A: Life Expectancy Calculator: http://www.confused.com/life-insurance/life-expectancy-calculator
Tool B: Life Expectancy Calculator: https://www.ssa.gov/OACT/population/longevity.html
Tool C: Abaris Life Expectancy Calculator: https://www.myabaris.com/tools/life-expectancy-calculator-how-long-will-i-live/
Tool D: Calculate Life Expectancy and More: http://www.bankrate.com/calculators/retirement/life-age-expectancy-calculator.aspx
Tool E: Project Big Life: Life Report https://www.projectbiglife.ca/life/results.php
Tool F: The Death Clock Calculator: http://www.death-clock.org