Longevity Risk

Living for a longer period in retirement has its benefits; however, it also has several attendant risks. One of the common risks of retirement is longevity risk- particularly as persons are living longer and not saving enough. Clearly, the risk of outliving your retirement assets must not be underestimated. It is a primary retirement concern of retirees in general and “baby boomers” in particular.

While it is true that not all retirees will have a long life span, the higher potential for it makes longevity an increasing concern. There are considerable pressures that arise when trying to maintain one’s lifestyle and avoid poverty in the golden years. Higher longevity risk increases the likelihood of retirement poverty. Living with inadequate (being broke in other words) for an indefinite period can be very uncomfortable and even stressful.

Whether you outlive your assets should be determined by your ability to meet basic living expenses. The poverty line provides a useful indicator of whether retirees have outlived their savings. Many retirees experience a decline in their standard of living, particularly when inflation erodes the real value of their retirement income. However, a gradual decline in the real and nominal value of retirement assets is natural during your retirement period. The danger of outliving your savings only becomes reality when you cross the poverty line.

Your lifestyle, life expectancy, retirement assets, asset growth and exposure to other retirement risks are some factors that determine your level of longevity risk. Living higher than your means allow- especially in the early stages of retirement- is a sure way to increase that risk. Your level of retirement savings and the value of your retirement income can also determine how soon you hit the poverty line.

Life expectancy is a tricky issue. Since uncertainty exists and life expectancy is on the rise, you should use a retirement period of 30 years or more- especially if you retire after 60. Other risks of retirement (e.g. inflation risks and market risks) are investment risks that affect the status of your retirement assets. The potential of developing critical illness in retirement can also severely deplete your retirement assets at a moment’s notice.

No matter how well you plan for retirement, longevity risk is not one that you can truly conquer- not until you die anyway. I recall reading an article where a woman complained that her husband’s retired parents- who had over a million dollars in combined savings- were too miserly with their money. However, any number of things could happen to deplete retirement assets faster than anticipated. With this in mind, being ultra-conservative is likely to hurt your efforts to decrease longevity risk.

Longevity risk is one that you have limited control over; planning properly, diversifying your retirement portfolio and safeguarding your retirement income are necessary ways of combating it. Although longevity risk is unavoidable, it can and should be minimized as best as possible.