As American workers express concerns over retirement readiness and longevity risk, new findings from The Bipartisan Policy Center (BPC) and BlackRock examine how guaranteed lifetime income tools can produce greater spending power.
According to the report, “Paving the Way to Optimized Retirement Income,” adding guaranteed lifetime income, combined with a more aggressive asset allocation, generates 29% more annual spending ability from retirement savings, and can reduce downside risk by 33% when compared to a standard retirement portfolio of 60% fixed income and 40% equities.
The report claims that in the first year of retirement, using such an approach can grow retirement savings by 35%, “as the guaranteed income stream affords individuals more flexibility to spend early in retirement.”
The Bipartisan Policy Center and BlackRock add that integrating Social Security claiming into the model may boost spending power, especially when incorporating its two strategies. As noted in the report, a delay from age 65 to age 67 can generate income to support 16% more annual spending throughout retirement, and further reduce downside risk by 15%. In total then, strategy 2 results in a 22% higher average spending throughout retirement with a 21% decline in downside risk.
The increased spending generated by the two strategies extends “well beyond the average life span,” and thus provides “a significantly higher spending floor into a retiree’s 90s and beyond,” found BPC and BlackRock.
Retirement Income roadblocks
As the report notes, the once “three-legged stool” of retirement—Social Security, private pensions, and personal savings and investments—is no longer viable to the average American. Instead, longer periods of retirement, current insolvency challenges with Social Security, and the decline of defined benefit (DB) and pension plans have disrupted the once-popular approach.
Other roadblocks, including undetermined lifetime earnings, volatile markets, healthcare costs and declining health, and disparities along racial, ethnic, gender, and income lines further add to the complexity in preparing for retirement.
Thus, the total of these factors, in addition to the uncertainty surrounding mortality, “only compounds the complexity of determining optimal retirement spending,” researchers said.
A change in thinking
BPC and BlackRock highlight the shift from DB and defined contribution (DC) plans in their analysis, touching on the fact that while DC plans add a level of personal onus to the participant, growing research shows a disconnect not only between what people should do and what they want to do, but also between intentions and actions.
For example, most people are hesitant to stray away from default options. “This poses a serious risk to workers when their employer puts little thought into their retirement plan options, but it also presents significant opportunities for the private sector and government to improve financial outcomes by improving plan defaults,” reported BPC and BlackRock.
Since people often use mental shortcuts to make decisions instead of thoroughly evaluating the situation—such as the decumulation challenge—this type of mental process can do more harm than good, the report explains, as small changes in context and framing can create meaningful and potentially unintended outcomes.
“For example, the Social Security Administration spent years framing the decision of when to claim benefits using a ‘break-even analysis’ that characterized claiming later than age 62 as a risky gamble that would take many years to pay off—even though most retirees will ultimately receive greater lifetime benefits if they delay claiming to a later age,” BPC and BlackRock added. “Research has shown that this framing caused many retirees to claim benefits earlier than they would have otherwise, as the advice tapped into a widespread aversion to risk.”
Optimizing strategies
Luckily, savers and retirees can put certain strategies into place to generate adequate income in retirement from the assets they’ve accumulated during their working years.
The report first suggests investors determine retirement objectives, as several savers—or even retirees—may not know what financial success in retirement looks like for them. “Without clarity around retirement objectives, understanding the challenges one must surmount and creating a plan to overcome them is virtually impossible,” the report wrote.
Next, consider key risk factors, including the risk of outliving assets, low earnings during early-career years, market volatility, and adequate portfolio spending during retirement.
Lastly, formulate a holistic strategy, and one that includes retirement savings, Social Security, and guaranteed lifetime income options. “Optimizing income in retirement requires considering career earnings as well as income from Social Security, part-time work in retirement, and other sources, in tandem with the key risk factors that change over time,” concluded BPC and BlackRock.
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