Longevity risk considerations are key factors impacting individuals’ decision-making in retirement planning, says Moshe Milevsky, executive director of the Individual Finance and Insurance Decision Centre in Toronto, Canada.
Milevsky pointed to Australia’s population demographics to highlight the reality of longevity risk, during a recent MLC Adviser Roadshow event held in Sydney.
Some 4,250 Australians are 100 years of age or greater, but more than 131,000 are over the age of 90, said Milevsky, referring to statistics from the Australian Bureau of Statistics. He pointed to the difference between these figures to demonstrate the extent of longevity risk.
“The volatility of your longevity is on the same order of magnitude as the stock market. You and your clients need a risk management strategy for, and products to manage, both,” he said.
Milevsky categorised the key risks individuals need to insure against as sequencing risk, longevity risk, inflation risk and execution risk.
He believes the way that financial planners communicate these concepts to their clients is just as important as the message itself.
“The language you use with your clients will have a huge impact on how they plan to prepare in addressing their longevity risk…you need to frame your questions in positive language,” Milevsky said.
As an example, he referred to a Duke University study comparing the answers individuals gave to two separate questions related to life expectancy. When asked to estimate the probability that they would survive to age 85, 50 per cent of males and 55 per cent of females responded in the affirmative.
But when the question was framed in a different way, with respondents instead being asked whether they expect to die by the age of 85, 75 per cent of males and 70 per cent of females answered yes.
“Overall, the estimated mean life expectancies, across three studies, were between 7.3 to 9.2 years longer when solicited in live-to versus die-by frame,” says Milevsky.
He also believes advisers need to be especially mindful of other individual differences among their client base. “Individuals differ in their preferences for consumption and spending in retirement, as well as their longevity risk aversion. So, they require a unique cocktail of income product and sources.”
“The sequence of investment returns in the early years of – and a few years prior to – retirement can have a disproportionate impact on the sustainability of income. Use insurance products to help manage this risk for retirees and soon-to-be retirees,” he added.
Milevsky explained that ideal retirement income products should protect against sequence risk, protect capital, have potential for growth over time, provide liquidity and access to cash and offer inflation protection.
“Retirement portfolios need to move away from traditional asset allocation and towards outcome based product allocation. Financial planning is key to retirement planning and managing the inherent risks facing retirees.”
