I’ve been reading a short report by Demos for Legal and General. L&G provide annuities and want to understand the fall in the numbers of annuities purchased.
The retirement riddle is that the choices people are taken since the pension freedoms of 2014 aren’t making them happy, well or putting them in control.
I have to say I found some of Demos’ analysis baffling. It included “behavioural bias” – limited annuity purchases are plausible due to psychological or behavioural bias”. I’m not quite sure what this means but I’m totally sure that the following statement is incomprehensible to all but the most ardent behavioural scientist.
Hyperbolic discounting. “When people assign values to future pay-outs, the discount rate used to evaluate intertemporal choice is not fixed but varies in line with the length of the delay period, size and signs of the benefits. This effect is called hyperbolic discounting and is interpreted as ‘temporal myopia’.
I think it’s simpler than that, I think people can see a bad deal a mile off. Investing their life savings into gilts with negative real returns is not a good way of providing a wage for life.
The report falls short in convincing us that people should be buying annuities. Given the choice of not buying an annuity, most people take that choice – whether in the UK, the US or America. Only in Switzerland are annuities popular, but that’s because they offer artificially inflated rates by a Government determined to get people to insure against old age.
“The retirement income riddle” is still a good work
Despite some very obscure passages and a pretty dreadful introduction, the second half of the report is very good indeed. This is because it focusses not on academic research (see above) but on conversations with ordinary pensioners, some of whom are relying on an annuity and some on income drawdown,
If their research is correct, low earners do not feel as happy when they drawdown as they do when they have a secure income. The Demos people’s findings are interesting, if a little worrying.
People on drawdown find it harder to take financial decisions
People on drawdown are less happy
and people in drawdown don’t feel in control
This is worrying because of the £36.8bn which came out of DB last year – most is in drawdown.
This is worrying because 500,000 people a year are exercising their pension freedoms and very few are buying annuities (for good reason)
This is worrying because – as the report says about 20 times in its final section, there is precious little support available to people – and when it is available – it is not exactly going down a storm (only 10% of those eligible have been for their Pension Wise interview).
The report concludes on a sobering note.
As an industry we have a duty of care to support people in their decisions, to ensure they get the retirement they want, need and deserve. Providers, like ourselves, need to do more to help engage consumers and guide them to making better decisions. We hope this report, and our supporting activity with colleagues in the industry, enables this.
There is a more fundamental problem. People do not trust their provider to give them independent advice any more than they trust their annuity products.
I think you analyse it too simply when you talk of seeing a bad deal a mile off. You and I might agree that index-linkers are an unattractive investment. But we can afford to take some risk which is why we might go for the equity roller coaster.
The fact is that index linked stocks are at their current yield because that is what balances buyers and sellers. It’s a fair deal in the current market.
The section I hit on was
“There is a body of evidence to suggest that far from being poor value, annuities are, in the language of the economists, “optimal choices” for many people. As we get older, on the whole people have less appetite for risk. Annuities can offer stability by guaranteeing an income for life, and thereby addressing investment and longevity risk.”
I think L&G has been brave to commission this work. The challenge is to see that people for whose risk appetite annuities are perfect can understand this message.
Henry (numbers not precise but for illustration)
The disappointing result of accumulating £1m to give £40k a year pension requires 16 years at 6% return at £40k a year contribution which implies at least £70k of gross income and being frugal for ever, even at twice NAW
Will people really defer gratification just as the sproggs stop killing income ( do they ever leave the nest?)
The provision of income beyond work has challenged savers for some time the major issue is how many years in retirement On current habits as long as in work
Maybe we need to redefine work not retirement
God help anyone on less than twice NAW
It is all very well looking at why people decide to take the whole cake and slice it up themselves rather than let someone else decide what portion size they get given every year. There are 2 big problems :
1) people do not save enough for long enough and 2) the fact that long term care costs usually have to be self funded means that even those who do save enough for long enough are f***ed if they need prolonged long term care. The current system is propped up by self deluded aspiarationalists thus perpetuating the current system where a small percentage of wealthy folk prosper and the vast majority are beyond hope if they linger too long.
I agree with Peter’s final comment in particular, the challenge is to get people suffeciently interested in what is going on – to make themselves happy. Even Pension Wise only gets 10% of us interested. L&G’s right – the industry must do better – but who is going to take up this challenge?
We should be careful not to assume that it is drawdown making people unhappy. As any reader of Freakonomics will know, the two factors could be unrelated, or connected by a third factor. Perhaps unhappy people who already feel they lack control are choosing drawdown because they crave control. Then continue to be unhappy…
I almost transferred out of my DB pension scheme. Thankfully I didn’t.
Now, I need not worry about stock markets performance, various fees, drawdown and all the involvement that goes with it. This has already given me peace of mind prior to my retirement and will hopefully continue throughout it.
The Demos research commissioned by Legal & General has produced some good work here in “The retirement income riddle: New perspectives on how we make financial choices and their impact on our wellbeing.”
What is alarming is the fact that £38.6bn was transferred out of DB last year alone, most of which is in drawdown. Also, many people will have to live with the consequences of what the FCA’s latest pension transfer work has found out (less than 50% of advice was suitable), not just today, but for the rest of their lives. I can’t see this having a good impact on their wellbeing?
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