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Longevity perceptions and post-retirement products

How long do you think you’re going to live?

Humans have been on earth for around 100,000 years and of all the humans who have ever lived to age 65, half are alive today. Average global life expectancy has doubled in the past 100 years, and Australia is one of the longest living nations. Right now, your life expectancy is increasing by six hours for every day you live.

Official statistics underestimate longevity

Many of us think we’ll live as long as our grandparents or parents did, which is a major perception problem. We don’t realise how long we’re going to live. In 2010 I co-authored a white paper for the Actuaries Institute called Australia’s Longevity Tsunami. The paper explored longevity and some reasons why we consistently underestimate our remaining years. This excerpt describes the reality:

“The latest ABS data reports the life expectancy at birth for a male as 79 and a female as 84. These figures are reported in the media and most Australian retirees base their views on how long they will live on this information.

The more realistic predicted scenario is much more dramatic. After allowing for mortality improvements on a cohort basis ... it’s estimated that retirees aged 65 now (i.e. in 2010) will live until 86 for men and 89 for women ...

By 2050 the average life expectancy for people aged 65 is projected to have improved to 92 for men and 93 for women. And this is an average. Many will live longer than this.”

So rather than living 14 years in retirement from age 65, males who have reached 65 are expected to live another 21 years – 50% longer. Similarly, women will be living 26% longer than expected. What does this mean for our retirement planning?

I think these figures could turn out to be conservative considering that we have consistently underestimated the speed of mortality improvements over the past 50 years. My personal prediction is that if the current rate of medical advancements continues then if you are currently 65 and healthy, there’s a 50% chance you will live until 100. If you are in your 20’s now, you could live well beyond 110.

It’s not just the general public that have failed to recognise these trends. It’s also those of us working in the superannuation industry. Are fund executives, product developers, fund trustees and risk managers really thinking enough about the implications of increasing longevity? If we believe a significant proportion of today’s retirees will live until 100, we know they won’t have enough super to last that long. How can we help them to manage the two biggest risks they will face in retirement - investment risk and longevity risk?

Poor acceptance of post-retirement products

Over the past two decades a series of post-retirement products have been launched which attempt to address these risks, but hardly any retirees have bought them. Why is this? There are many reasons, including:

  • The products (such as lifetime and deferred annuities) are complex and it can be difficult for customers to understand them. We have not yet found a way to simply present the value proposition of these products to a customer.
  • Interest rates have been low for a long time so it would mean customers are locking in a low rate of return for life and their returns look poor.
  • We struggle to find natural assets to ‘back’ these products. An ideal hedge would be a long term indexed bond. The lack of suitable assets to match these liabilities increases the risk and therefore the cost.
  • Fees appear high because they include insurance premiums for the significant protection provided against both market downside and outliving the money. If a customer doesn’t recognise how long they are going to live, this protection seems expensive.
  • Protection is expensive because the risks are so high. The market downside protection is the most expensive. Longevity protection becomes even more expensive when actuaries are not sure how fast longevity is improving. Longevity risk also exacerbates the investment risk as the longer a retiree lives, the higher the chance they will experience a market reversal.
  • Retirees want flexibility and do not like the concept of putting their retirement savings into a product which they cannot surrender and access the capital. It also works against their desire to leave a legacy to their family when they die.
  • Taxation legislation is out-dated and penalises deferred annuities compared with other retirement products. Other legislation (SIS, Centrelink) creates a number of other barriers.

Shifting perceptions

Perhaps we all need to shift our perceptions to help solve these problems. Product manufacturers should design products which are easy to use, able to be understood by customers and present a clear value proposition. Trustees and fund executives need to recognise the importance of offering retiree members protection against the high risks they will face. Individual Australians need to recognise that they are going to live for a very long time, and look at ways to protect against running out of money. And last but certainly not least, governments, regulators and policymakers need to prioritise the removal of legislative roadblocks to allow innovative products to be developed.

 

Melinda Howes is an actuary. She is Director of Product Strategy & Services at AMP, and is also a non-executive director.

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5 Comments

Stuart Barton

April 16, 2014

Hello Mr Venkatramani

Putting aside governments’ patchy track record in costing and funding defined benefit pension schemes, the idea that the answer to an ageing population lies in the bottomless pocket of the taxpayer is not new, but it seldom gets traction for the reason that governments want the private sector to foot more of the longevity bill than it already does, not less.

This is, after all, the whole point of compulsory superannuation.

As for private insurance offerings being “sketchy”, any concern in this regard should be directed to APRA, whose LAGIC regulatory capital regime imposes tougher requirements on Australian annuity providers than those in Europe and North America.

In relation to the well-documented “annuity puzzle” or, as you call it, “behavioural antipathy”, insurers are well on the way to curing this problem, and lifetime annuity sales are rising strongly. The numbers speak for themselves.

Kind regards
Stuart Barton
Challenger Limited

Stuart Barton

April 14, 2014

Hi Geoff

I'm not sure why you had such difficulty in finding Challenger's rates. They're no harder to find than term deposit rates on any bank's homepage. Go to Challenger.com.au, hover "Our products" top navigation, a dropdown menu unfurls which features 'rates' as the bottom option.

thanks and regards
Stuart Barton
Challenger Limited

Ramani Venkatramani

April 14, 2014

Coincidentally or otherwise, the submission of the Centre of Excellence in Population Ageing Research to the Murray Inquiry (to be released on 14 April) hits the problem on the head: the risks of longevity are such that private insurance offerings, sketchy at best, have proven inadequate, costly and are unable to tackle the understandable behavioural antipathy to the insurers perceived to be gobbling up the retirement capital of savers.
The insurers are in a difficult position here: after meeting the costs, they need to provide a risk-adjusted return to their shareholders. The costs are high, because the expected longevity improvement is unknown to humans, blunting the usual actuarial tools.
The regulator cannot dilute its standards either, as that would mean forsaking its mandate to safeguard policyholders unable to divine the black box of annuity pricing.
Traditional methods of pricing and regulation are falling short, as we are dealing here with development of a badly needed product / service on top of our accumulation model, where disengaged members are bearing risks they cannot grasp.
Such development, akin to infrastructure development with a lousy payback, cannot be left to profit-seeking private industry, but must be addressed by the state. Its perspective of social cohesion and longer term sustainability cannot feature on the radar of private providers, driven by stock analysts' demands.and even shorter term news media.
The Centre's recommendation for the Government to step in is the only way: after all, the taxpayer is already the default insurer (through underwriting the unfunded age pension) as well as a significant equity-provider in our super regime (through tax subsidies relative to opportunity forgone).
Our super industry, cocooned by compulsory super and soft tax concessions the likes of which other finance industries can only fantasise about, has fallen seriously short on innovation (investment choice excepted).
This recommendation if enacted, will shake it up, and deservedly so.

Geoff Walker

April 12, 2014

Hi Jeremy,

After some frustrating searching I did indeed find Challenger's current annuity rates, but you don't make it easy.

Might I suggest that you provide a big unmissable link to This Week's Annuity Rates on Challenger's home page?

Jeremy Cooper

April 11, 2014

Hi Melinda

The good news is that the answer is right in front of you.

Some of your criticisms of lifetime annuities may have been true 5 years ago, but since 2012, the contemporary product has changed dramatically and is breaking sales records each quarter.

Today’s innovative, but simple lifetime annuity is the most successful post-retirement product launched in the last few years. While still a small fraction of the market-linked or account-based pension market, its recent growth trajectory has been very steep.

For example, in calendar 2013, Challenger sold $413 million worth of lifetime annuities, nearly 10% more than the entire industry has sold in any prior year.

Addressing your other comments:

1. A 65-year old female can buy a lifetime annuity that pays her $5,863 a year, per $100,000 invested, for the rest of her life, with access to capital for her or her estate in the first 15 years. This information is on Challenger’s public website. There are no other product fees or variables involved. That’s a pretty simple proposition that is proving highly attractive to retirees.
2. As this example, and sales over the last few years attest, the interest rate cycle does not have as much of an impact on lifetime annuities as is often thought. Having said that, low discount rates impact all investments, the value of retirement capital and the cost of producing cash flows in retirement. There is no free lunch.
3. The largest annuity provider in the market isn’t having any trouble finding long-dated assets to back annuity liabilities, so we’re not sure where this apprehension comes from.
4. As for the cost of protection, see point 1.
5. We would agree that fees do appear high on some variable annuity products, which could explain their lack of popularity.
6. Challenger’s Liquid Lifetime annuity has a 15-year guarantee period in which there is access to capital for the policyholder or their estate. Anyone buying an annuity below 71 years of age can ask for all of their money back at the end of the 15-year withdrawal period and will receive 100% of the amount invested.
7. The industry seems to be almost universally of the same view on the tax and Centrelink treatments.

You’re right, perceptions in the industry do need to shift – but they need to shift in relation to outdated notions attaching to lifetime annuities.

Jeremy Cooper
Chairman, Retirement Income, Challenger


 

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