If you’re retired, or close to it, chances are good that your number one financial worry right now has to do with the ups and downs of the stock market. It’s certainly true that big daily swings on the Dow or the S&P can be unnerving. But here’s something to consider: you might be worrying too much about the wrong thing.
We recently read this insightful article from Barron’s in which reporter Elizabeth O’Brien challenges the idea that the currently bumpy ride on Wall Street is a retiree’s chief concern. In her article, O’Brien cites new research that shows that your biggest financial worry as a retiree is actually not the market: it’s the danger of outliving your assets due to your expected longer life expectancy. Let’s examine the data.
Does the Dow Keep You Up Nights?
“Market volatility may keep retirees up at night,” says O’Brien in her Barron’s article, “but the biggest risk to retirement security isn’t what is happening on Wall Street. Instead, the chance of living longer than expected and depleting your assets – what the financial industry calls ‘longevity risk’ – is the bigger threat to retirement security.”
That insight is based on a recent research paper by Wenliang Hou, formerly of the Center for Retirement Research at Boston College. The study was based on survey data from the long-running University of Michigan Health and Retirement Study, which surveys about 20,000 people over age 50 every two years.
O’Brien explains that the research was conducted before stocks slipped into a bear market last month, so the issue is even more acute today. The study shows that retirees have what the article calls “an exaggerated sense of market volatility.” O’Brien adds, “That’s understandable, since research has shown that people experience more pain from losses than they experience joy from gains. Still, as they overestimate the probability that stocks will rise or fall, older adults also underestimate how long they might live.”
Retirees Tend to Focus on the Wrong Problem
The report from the study explains the problem. “Planning for retirement has always been challenging because retirees face numerous risks and may not perceive them accurately,” Hou writes. He worries that “retirees do not have an accurate understanding of their true retirement risks.”
In her Barron’s article, O’Brien writes that – in order of greater to lesser importance – retirees ranked market volatility as their top risk, followed by longevity risk and then health risk (specifically high medical bills and long-term care expenses). “Yet,” she states, “an objective ranking puts longevity risk first, followed by health and then market risk.”
According to the article, this apparent disconnect between perceived risk and actual risk “has real-world implications. If you don’t consider the possibility of living very long, you might be more inclined to claim Social Security early instead of waiting to maximize your benefit.”
It’s generally true that people tend to underestimate how long they will actually live, often basing their retirement planning on false expectations. “Many people plan to live as long as their parents did,” says O’Brien, yet, according to data published on the Stat News website, the latest research suggests that genes account for less than 7 percent of people’s lifespan.
The bottom line, the data suggests, is that we all need to plan for the possibility of living longer than we expect. Barron’s suggests, quoting the Boston College study, that ensuring lifetime guaranteed income is an important step to help retirees with limited means “avoid [the] potentially catastrophic risk” of outliving their assets.
One Solution: Social Security Plus Annuities
We’ve written many articles here on the AgingOptions Blog about Social Security optimization strategies, so the first recommendation from the study will come as no surprise: don’t claim Social Security early. Claiming Social Security at your full retirement age (between 65 and 67 depending on your birth year) “will get you 100 percent of the benefits that you have earned; claiming at age 70 will result in benefits that are 124 percent of what you would receive at full retirement age; and claiming at your earliest eligibility of 62 will result in benefits that are about 30 percent less than those at full retirement age.” Those percentages are locked in for life.
The article calls Social Security “the best inflation-adjusted annuity around,” but O’Brien adds that private-sector annuities may also fit with your planning to help ensure that you won’t outlive your money. “The simplest kind of annuity is a single-premium immediate annuity,” she writes, “and payouts on these insurance products have risen along with rising interest rates.”
A Double-Edged Sword
“Longevity can be a double-edged sword for retirees,” the article concludes. “While it can test their savings, it also means that market volatility isn’t as much of a threat as they might fear. A 20-year investment horizon in retirement generally allows for time to ride out the market’s short-term declines.” As one financial planner told Barron’s, “Just stop thinking about it for a while. You’ll feel better, and the markets will recover. They always do.”
While this head-in-the-sand approach may calm ruffled nerves, we suggest that a better approach is to meet with a qualified fee-based financial planner and have him or her prepare a financial dashboard for you. It’s the best tool we know to allow you to peer into your financial future and test out your assumptions with a variety of what-if scenarios. Contact us at AgingOptions – we’ll gladly explain more and refer you to a recommended professional. The best antidote for financial nervousness is sound knowledge and a good plan.
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(originally reported at www.barrons.com)