Longevity Risk

Anna Rappaport is widely recognized as a leading expert on retirement systems, workforce issues, the impact of changing demographics and women’s retirement security.

Many financial advisors seem conditioned to wear annuity criticism as a sort of badge of honor. 

As the past couple of years have so painfully revealed, however, this conventional wisdom rests on shaky ground.

What types of questions might a client present to an advisor who appears to have a reflexive inclination to dismiss most or all forms of annuities?  Consider the following:

1.  How are my assets hedged against longevity risk?  In other words, how am I protected from outliving my money?

While the national debate on healthcare comes to a climax in Congress, there is clear evidence of enormous productivity gains in healthcare.

It is reported that the cost of genome sequencing continues to plummet in a Moore's Law fashion.

The total cost of sequencing an entire human genome started at $3 billion.

The global consulting firm Mercer recently launched a pension buyout index.

A recent survey conducted by Bank of America indicates that the majority of wealthy Americans are concerned about outliving their savings in retirement.

The BofA survey results reveal that 53 percent of respondents are concerned about making their savings last through retirement, and 59 percent cite healthcare costs as a major concern. 

A surprising 67 percent of BofA survey respondents said that they did not work with a financial advisor for retirement planning.

The survey focuses on households with at least $250,000 in investable assets.

China's pension system is in need of reform. 

The current pay-as-you-go system only covers 30 percent of the population and is funded by a 28 percent payroll tax on participating companies.

The remainder of the system is unfunded with liabilities that total almost 140 percent of China's current GDP.

Boston University Professor Laurence Kotlikoff provides an interesting set of remedies in a recent op-ed piece.

Demand for longevity risk has been returning to the UK pension market.

High levels of volatility during the financial crisis deterred many players in the pension buyout market.

The return to normalcy in the capital markets may, in fact, be contributing to under-pricing of longevity risk among those who are providing solutions to UK pension plan sponsors who seek to offload longevity-related liabilities.

A worthwhile article in the Financial Times discusses the range of options that are currently available to UK pension plan sponsors:

The Reinsurer Swiss Re has provided the first public-private longevity transaction with a U.K.-based public sector pension fund.

Swiss Re is essentially providing longevity insurance to 11,000 of the current pensioners under the Royal County of Berkshire Pension Fund.

Swiss Re will assume the "floating" annuity payments and longevity risk for the 11,000 pensioners in exchange for an ongoing fixed premium.

The Royal County of Berkshire retains control over the plan assets and the plan investment policy.

Source: Swiss Re

The United Kingdom has what is arguably the most sophisticated market in the world for financing longevity risk.

The market for pension buyouts is developing and the demand among pension sponsors to off-load longevity risk is srtong.

The issue is that there is a relative lack of capacity or ability to meet the demand.

Reinsurers are active in the buyout market but the capacity is limited, and the longevity derivatives markets are relatively illiquid when compared to more established derivatives markets.

Two of the most daunting risks faced by the majority of retirees are: