Part of my presentation at The Arizona Institute focused on the demographic changes over the last 20 years, changes that are likely to impact the retirement income space for several decades. Some changes are the costs associated with increased longevity. Others are the rate of savings in the United States, which has been declining since the late 1970s, resulting in smaller asset values to work with as we seek to generate future income. But, I think the one change not discussed enough is the shift from defined benefit to defined contribution plans we have seen over the past 20 years.
Defined contribution plans continue to grow in popularity due to the large selection of funds, lower costs and tax advantages. But few plans have access to guaranteed income like a defined benefit plan. Only recently have 401(k) plans begun to add deferred-income annuities to some target date selections. In our research, we find that a portfolio can be optimized (a 95 percent chance of one dollar left in the portfolio at age 95), with somewhere between 18-25 percent of the portfolio in guaranteed income. Guaranteed income may be Social Security, pension or annuities.
When I talk with plan sponsors about their retirement benefits for employees, I find a ton of information in their offices about risk tolerance tests, asset allocation and fund performance. But I rarely see or hear intelligent and meaningful conversations about converting this wealth into income. The loss of guaranteed income streams provided by pension plans places additional pressure on our remaining assets to generate income.
The shift away from defined benefit plans seems to have shifted the attention of our asset managers as well. Too many of our pension plans are currently underfunded. Some plans are just as insolvent as the Social Security system. Many plans have invested in significant holdings in bonds. In a potentially rising interest rate environment, this can be devastating. As more Boomers with these frozen pension plans inch closer to accessing their income, many plans will see increased pressure on funding levels as payouts increase and bond prices decrease.
This demographic change can open an opportunity for those planners who address it. Talking to your clients about getting in position for retirement income now can put planners in a leadership role with their clients. Giving clients the options of guaranteed income will likely provide stability to the portfolio and peace of mind to the client. Although this shift will end up being costly to most consumers, the financial planning industry can step in and provide proper strategies to many Americans.
Understand how consumer behavior over the last two decades will impact retirement income planning. More income from fewer assets, less guaranteed income available from employer plans, and increased longevity risks can provide an opportunity to expand your value proposition to the client.
Mike McGlothlin is a tireless advocate for the retirement planning industry. As executive vice president of annuities at Ash Brokerage, he heads a team providing income planning solutions focused on longevity and efficiency. He’s also a thought leader who provides guidance and assistance for advisors and broker-dealers navigating marketplace and regulatory changes. You can find a collection of his blog posts in his book, “Above the Clouds … Winning Strategies from 30,000 Feet.”