In Practice June 23, 2013

New Retirement, New Planning

The definition of retirement is changing, which requires new considerations when planning.
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Dan Veto, with AgeWave, a research company in Emeryville, California, told attendees of the National Tax Sheltered Accounts Association’s (NTSAA) 403(b) Summit that Baby Boomers have transformed the retirement advice business. Between 2000 and 2020, the 55 and older age group will grow 73%, and Boomers have an attitude like no other group this age that has come before them—they are not going to quietly disappear, he said.  

Boomer women also bring a different perspective; they were the first generation of women to be expected to go to college and enter the workforce. They want an equal say, Veto noted.  

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However, people receive virtually no education about long-term/retirement saving and investing.  

The recession and media reports woke people up to their retirement savings needs. Ten years ago, respondents to an AgeWave survey said they were going to retire at age 64, now they say they will retire on average at age 69, according to Veto.  

But, it’s not just about money, he said. What people do or want to do is no longer dictated by age. “People think, if they’re going to live to age 85, it’s not so ridiculous to start something new at 55.”

 

Veto added that as people age, material things become less important; relationships and experiences mean more. An AgeWave survey found only 30% of Boomers said they never want to work for pay again, but only 5% want full-time work. The new retirement is a cycle between work and leisure. Veto shared the example of a woman he knows who works very hard during tax season, from January 1 to April 15 each year, then takes the rest of the year to do what she wants to do.  

Some Boomers decide to go back to school when they “retire.” And, Veto noted, leisure is still a big part of their definition of retirement. In addition, Boomers want to leave a legacy, with their families and their communities. Asked ‘What is retirement,’ 54% of respondents to an AgeWave survey said “a whole new chapter in life.”  

So, how can they make this happen financially?  More and more, individuals have to rely on themselves for financial security. Some will spend more years in retirement than working. People don’t understand this, Veto contended. He said the industry needs to stress to pre-retirees that 80% certainty of not outliving their assets is not enough; they need 100% certainty.  

According to Veto, if an adviser is not addressing uninsured health care and long-term care in retirement planning, they are doing clients a disservice. “Ninety thousand a year for a nursing home will blow up anyone’s retirement plans,” he said, citing a statistic that 69% of Baby Boomers will need long-term care in retirement.

 

Families can also derail a person’s retirement plans. Advisers should ask clients if they expect to give financial assistance to a family member. But, even if they do not expect to, they should plan for curveballs, such as an unemployed child or sick parents.  

People want peace of mind in retirement. Veto said only 13% of individuals surveyed indicated their objective is to accumulate wealth for retirement; 82% said they wanted financial peace of mind. Income protection (guarantees) and lifetime income were also top of mind. “If you don’t know about these [products], you are not keeping up with the new [retirement] market,” he told attendees.  

Asked what they want in an adviser, 72% of survey respondents said they want someone who speaks in terms they can understand. Seventy-five percent want an adviser who listens to them to know what they want and need.  

“Clients need the right tools and a guide to help them navigate the waters. They’ve never been retired before,” Veto concluded.

 

Data & Research June 21, 2013

Investors Need to Beware of Interest Rate Risks

Low interest rates pose a risk to investors, according to a Prudential paper on the implications of recent research from the National Retirement Risk Index.
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“Many people focus on the accumulation objective,” Bruce Ferris, head of sales and distribution, product management and marketing for Prudential Annuities, told PLANADVISER. “But it’s just as important to think about cash flow needs in retirement. What gets left out is an understanding of cash flow in retirement and the factors that can threaten cash flow, such as tax, inflation, health care costs and sequence of returns.”

Ferris pointed out the decades-long conventional wisdom that a 4% drawdown would sustain an individual through 30 years or so of retirement. It was true for many years, he said, but study after study has proven this is no longer the case.

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The most recent update to the National Retirement Risk Index, published in October 2012, found 53% of households are at risk of being unable to maintain their pre-retirement standard of living during retirement (see “Standard of Living May Not Be Sustainable”). (The index is produced by the Center for Retirement Research at Boston College and sponsored by Prudential.) In its research, the center took a closer look at the impact of low interest rates on the index.  

Interest rate levels alone would have only a modest impact on this index. A key reason is that Social Security and defined benefit income, which are not impacted by interest rate changes, make up the majority of total wealth for most Americans, according to the center’s research. The index assumes households annuitize their financial and housing wealth at retirement. This measure protects the income generated from those assets against interest rate risk as well as equity market and longevity risks. For those who do not protect their retirement income, however, these risks can have a significant impact on their retirement prospects. 

Key Points for Advisers 

Prudential raises other points in “Planning for Retirement: The Impact of Interest Rates on Retirement Income”:

  • Advisers can help clients determine an appropriate target retirement age, track retirement savings in terms of an income goal, and help them understand how guaranteed lifetime income products can be leveraged in retirement planning.
  • Investors need to understand the impact of interest rates on different types of retirement products. The amount of monthly payout from an immediate annuity, for example, is dependent on the interest rates at the time of the annuity purchase. The higher the interest rate, the higher the payout.
  • The level of payouts from a variable annuity with guaranteed lifetime income benefits does not depend on interest rates at the time income payments begin.
  • Without a customized financial plan and proactive steps to insure their income, improvements in the economic climate alone—such as increasing interest rates—will not be enough to guarantee a dignified retirement.

 

To raise awareness among plan sponsors of how guaranteed income solutions can work within a defined contribution plan, Ferris said he would start with a discussion about how retirement incoming planning has changed over the past 20 years. “In 1983 the foundation of the pyramid was  pensions, then Social Security, then an individual’s nest egg. Now the pyramid is inverted,” Ferris said. “It’s very narrow and uncertain, with pensions at bottom, then Social Security, then an individual’s nest egg.”

Key Points for Plan Sponsors 

As plan sponsors think about how to prepare their participants for retirement and what they should be offering, it is important to think about how those pension plans were invested, which was mostly in fixed income in order to provide long-term certainty of income. As plan sponsors and fiduciaries think about their role they need to think about how to get people to save earlier; stay the course and provide options with income guarantees that cannot be outlived, Ferris said.

In an earlier study, “Changing Attitudes About Retirement Income,” Prudential found a majority of survey respondents (84%) said they would be likelier to stay in the stock market even while experiencing short-term losses if they had a retirement investment product with guaranteed income. (See “Annuities Can Help Wary Investors Stay in the Game.”)

Market volatility has definitely affected people’s behavior, Ferris noted. During the financial crisis of 2008-09, the average investor lost about one-third of the value of his portfolio. In 2012, because they were afraid of losing money in equities, people began investing heavily in fixed income, which was at historically low rates. But, Ferris pointed out, they made these investing decisions when the market was up 13%. Net outflows of equity mutual funds were at an all-time high. Ferris feels investors would have been better served by investing in guaranteed income products to help preserve principal and guarantee income for retirement.

Providing  solutions with income within the retirement plan provides certainty of income, according to Ferris. “Guarantees help people stay the course; save appropriately and have a portfolio that will withstand volatility and give a smoother ride. Retiring Americans would be well served by having more options that provide a guarantee.”

Annuities are one form of providing this guarantee of income, Ferris said. “We need to provide more advice through the institutional plan community relative to helping people prepare for the risks.” Auto enrollment and auto escalation are features that can and should be used, and plan sponsors should become more aware of in-plan guaranteed lifetime income products.

According to Ferris, the financial services industry also needs to provide more options and flexibility. “The way we protect managed risk in those plans requires us to make certain recommendations,” he said.  “In the institutional world, there’s not a reluctance, but a lack of understanding about how to coordinate those two things so that a plan meets the needs of employees but allows insurance companies to manage the risks associated with those liabilities.,” Ferris said.

Three questions are fundamental, Ferris said, and all stem from the value of a financial professional. Advisers help people answer, first, how much to save; how much a person needs annually; and what are the threats to cash flow—taxes, health care costs, inflation—and how can these threats be mitigated?

“Planning for Retirement: The Impact of Interest Rates on Retirement Income” can be downloaded here.  

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