Why retirees should worry more about longevity and less about markets
A research article by Wenliang Hou finds that retirees have an excessive sense of market volatility.
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Market volatility can keep retirees up at night, but the biggest risk to pension security is not what happens on Wall Street.
Instead, the chance to live longer than expected and empty your assets – what the financial industry calls “long-term risk” – is the biggest threat to retirement security, according to a recent research article by Wenliang Hou, formerly of the Center for Retirement Research at Boston College.
The survey, which was conducted before stocks slipped into a bear market in the last month, find that retirees have an excessive sense of market volatility. This is understandable, since research has shown that people experience more pain from loss than they experience the benefit of gain. Nevertheless, as they overestimate the likelihood that stocks will rise or fall, older adults also underestimate how long they can live.
Retirees ranked market volatility as their greatest risk, followed by longevity and then health risk (the potential for high medical bills and long-term care expenses). However, an objective ranking puts lifetime risk first, followed by health and then market risk.
The study was based on survey data from the long-running University of Michigan Health and Retirement Study, which examines about 20,000 people over the age of 50 every two years. Hou then matched these responses to objective data on longevity, medical expenses and market volatility, measured for equities on the Wilshire 5000 Total Market Index.
“Retirees do not have an accurate understanding of their true retirement risk,” Hou wrote in the newspaper.
This disconnection has implications in the real world. If you do not consider the possibility of living very long, you may be more likely to claim social security early instead of waiting to maximize the benefit.
Many people plan to live as long as their parents did, but recent research suggests that genes make up less than 7% of people’s lifespan. So it is best to plan for the opportunity to live longer than you expect.
For those born in 1960 or later, social security claims at full retirement age of 67 will give you 100% of the benefits you have earned; claiming at age 70 will result in benefits that are 124% of what you will receive at full retirement age; and claiming at your earliest qualification of 62 will result in benefits that are approximately 30% less than those at full retirement age.
The numbers are a bit different for those born before 1960, but in any case it pays to wait if you can afford it.
Social Security is the best inflation-adjusted annuity available, but private-sector annuities can also help ensure that you will not survive your money. The simplest type of annuity is an immediate lump sum, and payments on these insurance products have increased along with rising interest rates.
Longevity can be a double-edged sword for retirees. While it may test their savings, it also means that market volatility is not as big a threat as they might fear. A 20-year investment horizon in retirement generally provides time to ride on the market’s short-term fall.
“Just stop thinking about it for a while,” said Daniel Hawley, a certified financial planner at Hawley Advisors in Walnut Creek, California. “You want to feel better, and the markets will recover. They always do.”
Write to Elizabeth O’Brien at elizabeth.obrien@barrons.com
Corrections and reinforcements
For those born in 1960 or later, the requirement for social security at the age of 70 will result in benefits that are 124% of what you would have received at full retirement age. An earlier version of this article erroneously said that it would be 124% more than what you would receive at full retirement age.
