Another Dimension to Retirement Risks

September 16th, 2015

As part of my responsibility to clients, I continue to follow the work of several leading experts on the risks of retirement. Steve Vernon, an American actuary, recently surprised me by adding another whole category of retirement risks that he calls behavioral risks.

These risks involve the behavior of the retiree (or the people that the retiree is depending on for advice and guidance) and they can jeopardize any retirement income plan.

Inability to Self-Execute

Given our normal human frailties, it’s extremely difficult to adhere to a strategic asset mix that includes equities when the local stock markets are dropping 10, 20 or even 30%.

By nature, most of us have a strong tendency to buy high and sell low. This will certainly undermine a retirement income plan.

Temptation to Spend Today

It’s obvious that when investment returns are poor, it makes sense to reduce discretionary spending.
What about when investment returns are good, or even spectacular? How do you determine how much of that excess return can be spent on lifestyle without jeopardizing your long-term plan?

Cognitive Decline

If you have a strategy that you use to determine how much it’s safe to spend in good times, it’s safe to assume it will involve some complexity.

Such complicated decisions may be fine in your sixties and seventies. How will you deal with these in your eighties and nineties? Will the complexity be overwhelming? Your plan requires an “autopilot” feature that keeps you on course.

Fraud

Everyone knows that many seniors have a lot of money. Seniors are a natural target for fraud. In my mother’s later years, it was very painful to hear her stories about tradespeople that would knock on her door and offer to service her furnace, her air conditioning or her appliances. When it became clear that she was no longer able to fend off these people, it became necessary to move her out of the family home.

Your retirement income plan needs to be fraud proof.

Poor or Biased Advice

There are only a limited number of professional designations where the individual advisor has a legal obligation to act in your best interests. These include lawyers, accountants, actuaries, Certified Financial Analysts (CFA) and Certified Financial Planners (CFP).

For many other designations, the person sitting across the table, especially in a bank, is often a commissioned sales person where their compensation creates a pressure which can bias their recommendations.

Mistakes due to Inadequate Understanding

The best example of a mistake due to inadequate understanding is called “The Annuity Puzzle”.

In general, people are fiercely prejudiced against life annuities because they don’t understand them. Many people are concerned that they lose control over their savings (which is not accurate, by the way).
Because their understanding is inadequate, they do not realize that annuities eliminate the risks of:

  • Longevity
  • Sequence of returns
  • Vendor insolvency
  • Withdrawal rate
  • Protection for spouse

There are features available that eliminate or at least ameliorate the risk of inflation. A life annuity cannot provide liquidity.

Conclusion

Retirement income planning is going to be the focus of my research and writing over the next few months. I look forward to helping you navigate the maze.