By Richard Eisenberg
If retirement is nearing (however you define retirement personally), it’s understandable that you’re worrying about the risks you’ll face. But you just may be worrying too much about the wrong ones.
That’s the conclusion of economist Wenliang Hou and the basis of a recent paper he wrote for the Center for Retirement Research (CRR) at Boston College, “ How Well Do Retirees Assess the Risks They Face in Retirement? ” (Hou came up with his findings while working there; these days, he’s a quantitative analyst in the fixed income division of Fidelity Investments.)
The 5 big retirement risks
Basically, Hou says, there are five major risks in retirement:
· Longevity risk — the risk you’ll outlive your money
· Market risk — the risk of volatility in the stock market and housing market
· Health risk — the risk of unexpected medical expenses and long-term care needs
· Family risk — the risk of things like divorce, the death of a spouse or partner and adult children becoming ill or unemployed
· Policy risk — the risk of the Social Security Trust Funds’ insolvency, leading to a 20% to 25% reduction in retirement benefits if there are no policy changes
Hou compared the actual risks of each (known as objective or empirical risks) with how people assess the probability of those risks (known as subjective risks). To do this, he reviewed the University of Michigan’s biennial Health and Retirement Study, which surveys about 20,000 people over 50, and then looked at the data.
What he found: “People underestimate their longevity, and they overestimate the volatility of the market,” Hou told me.
What people fear most vs. the reality
More specifically, Hou ranked the public’s view of their retirement risks in this order: market risk, longevity risk, health risk, family risk and policy risk. But their real retirement risks, he discovered, are in this order: longevity risk, health risk, market risk, family risk and policy risk.
“Longevity is the most important risk because people need to allocate their resources over the retirement horizon to make decisions,” says Hou.
People who aren’t being realistic about how long they might live might, as a result, not save as much as they need to or spend more in retirement than what’s wise.
Also, says Hou, “they may make the wrong decisions regarding when they stop working and start claiming Social Security benefits.”
Quitting work for full-time retirement can mean no longer saving for retirement in a 401(k). Claiming Social Security at, say, 62, will reduce the size of your retirement benefit compared with waiting until your mid- or late-60s. You get 8% more from Social Security for each year you delay claiming between your Full Retirement Age (now typically 66 to 67) and age 70.
The longevity goof we make
Americans often predict their longevity based on the age their parents died, which may be in their 70s, Hou says. But we’re generally living longer than our parents did.
The actual mortality statistics say that today’s 65-year-old male in the United States can expect to live, on average, to about 87; a 65-year-old female to about 89.
The expected lifespans for men and women have jumped by more than 10% since 2000, according to the Society of Actuaries, author Mark Miller notes in his excellent forthcoming book, “Retirement Reboot: Commonsense Strategies for Getting Back on Track.”
Averages being averages, it’s possible you’ll live into your 90s or 100s — or not. Of course, it’s impossible to know exactly how long you’ll live. Your genes play a role. So does your current health, your future health, your health history, the possibility of an accident or becoming a crime victim and simply the unexpected.