New model needed
Focus on the issue of longevity risk
ONE OF THE BIGGEST FEARS OF retirees is the possibility of lasting longer than their money. Yet global increases in average life expectancy are making this a more frequent occurrence, serving to underpin the requirement for sound retirement planning.
The issue of longevity risk is now being worked into the numbers as financial planners ensure their clients have sufficient resources during the latter part of their lives. In 1901, the average life expectancy of a male in Britain was 46. Women were expected to live to 50. By the turn of the century, expectancies had moved to 76 and 81 years respectively, and SA is not lagging too far behind in this respect.
The upshot is that there are more retired folks out there, meaning bigger expenditure on things like health and care of the aged by both individuals and Government. With social support structures and Government pension funds already creaking under the strain, new models are being devised to cater for the “life begins at 60” brigade.
In South Africa, it’s commonly accepted that 31% of people who reach retirement age will have to continue working; 47% will be dependent on family; 16% will depend on a meagre State pension and only 6% will be able to retire financially independent.
Andrew Bradley, CEO of independent asset consulting and financial planning firm acsis, points to an evolving retirement savings “gap”, meaning that the majority of retirees would not be in a position to retire on a gross income of about 60% of their pre-retirement income. He suggests further that on current trends, the majority of middle and upper income earners also suffer severe declines in living standards when they step out of the employment pool.
“Effectively it’s only those on either end of the scale – the very rich and the very poor – who will experience little change to their living standards when they retire,” says Bradley.
Despite all this, as a nation we seem intent on digging an even deeper hole for ourselves. “More South Africans are increasing their debt and spending more than they earn every month and household debt as a percentage of disposable income is at its highest level ever. So South Africans on the 50-plus end of the scale are finding themselves chronically under-insured, under-saved and under-invested.
It’s not like there’s an affordability issue, or there aren’t enough products to cater for our retirement planning. More, it’s to do with our inherent behavioural make-up. “In the same way that poor physical health can often be ascribed to inappropriate behaviours, poor financial health can be accredited to lack of control, a ‘live for the day’ mentality, peer pressure, striving for status, and the tangible versus intangible benefits of saving for the future,” says Bradley.
What he’s referring to relates to the theory of “behavioural finance”, a discipline that has attracted a growing pool of advocates who believe that people don’t always display economically rational behaviour. While that might sound obvious, behaviourists have outlined a handful of areas where investors allow their ingrained behaviours to upset the investment apple cart. The first is in extrapolating past returns, assuming that recent events will continue into the future and buying good performing stocks and avoiding those that have performed poorly. An equally disruptive influence is overconfidence, or overestimating predictive skills, while anchoring, or forming expectations based on historical trends often leads to an under-reaction to trend changes. Behaviourists refer to the flip side of that, betting on when a run of gains or losses is likely to end, as the gambler’s fallacy.
Arguably one of the biggest problem areas relates to loss aversion, where investors place far more weight on losses than gains, feeling more distress for a R1 loss than the satisfaction they derive from an equivalent R1 gain. They therefore tend to avoid investments where they have made poor investment decisions in the past. Investors also tend to compartmentalise individual investments and take decisions accordingly, rather than viewing the overall investment holistically.
Behavioural finance goes some way to explaining investors’ over or under reaction to price changes, extrapolation of past trends into the future and lack of attention to fundamentals underlying a stock. It also could explain why, according to research by Dalbar in the US and acsis locally, average mutual fund investors only achieved returns of between 2% and 3%
Poor financial health can be accredited to lack of
control, a live for the day mentality.
over the past 20 years, compared to the US S&P 200 return of about 12%, while in SA, average investors in unit trusts achieved 4,6% during the period from 1996 to 2003, less than half the average returns of 9,5%.
Bradley says that this is where quality financial advice comes in. It’s about everything a good adviser does to ensure that you live the lifestyle you choose. Everything a good adviser does should help reinforce the behavioural changes people are making. This starts with the way they design and package their services and investment vehicles, the marketing collateral they produce, policy documents, statements, and all other communications.
“The adviser and support infrastructure are there for one reason and one reason only, to help you make and sustain the behavioural changes required to overcome the chronic levels of under-insurance, under-saving and under-investment that are prevalent in our society,” says Bradley
An evolving retirement savings gap. Andrew Bradley