The Big Retirement Question: How Am I Doing?
Advisors are on the receiving end of lots of retirement stories based on research and survey results. Some are fun-to-read fluff, like the endless lists of the best and worst places to retire. Others are more substantive and provide information that can help advisors and investors improve retirement planning and outcomes.
Some of the most comprehensive and useful research on retirement comes in the form of J.P. Morgan Asset Management’s “Retirement Insights.” Under that umbrella, the firm combines a vast array of corporate retirement plan data from its recordkeeping business and the Employee Benefit Research Institute, as well as spending and borrowing patterns from bank and credit card customers (anonymized to protect privacy), to create research-based reports aimed at helping plan sponsors, advisors and individuals better understand the current state of retirement planning, retirement readiness and the mood of those preparing for and living in retirement.
After looking at two of the firm’s recent major annual reports, “Guide to Retirement” and “Retirement by the Numbers,” I spoke with Michael Conrath, the firm’s chief retirement strategist, to learn what he believes are key takeaways from the firm’s latest research. What follows are excerpts of our conversation, edited for clarity and length.
Evan Cooper: Michael, while many experts see an impending retirement crisis because Americans are saving too little, others like Andrew Biggs of the American Enterprise Institute believe we’re doing pretty well, noting that data are often misinterpreted and that relatively few people run out of money in retirement. How do you see things?
Michael Conrath: The message is not that people aren’t saving; most people are doing something. The problem is that most people don’t know how they’re doing or how much money they will need, meaning they don’t have a sense of whether they’re on track for a satisfactory retirement or if they should adjust their saving. We’ve found that 56% of people don’t know what their target is, so if you ask them how much they should save or invest and what number they’re comfortable with, they can’t answer. In our most recent “Guide to Retirement,” we try to give some prescriptive guidance through several retirement savings checkpoint table, which provide suggested retirement savings goals based on household income and current age.
To be sure, there have been some great advancements in plans over the years, such as auto-enrollment and auto-escalation. But it’s clear that too many participants are saving too little. In part, that’s because people are typically unaware of what they’re contributing and usually don’t think about increasing their contributions. When we looked at 12 million 401(k) participants, we found that contribution rates generally start below 5%—often at 3%—and peak just above 8%, even for the highest earners. Only about 15% hit a double-digit contribution rate. Another problem is that when people move from one employer to another, their contribution rate defaults to a lower level and they don’t realize it.
But even if they realize they are contributing too little, it’s hard for people to change from a 3% contribution to 10% overnight. We’ve found that a gradual approach works best. Increasing a contribution rate by just 1% a year over a period of years is manageable and can add meaningful dollars to someone’s retirement account.
EC: Isn’t there also a problem with plan “leakage?”
MC: Yes. Our research finds that financial pressures outside the plan directly affect retirement saving behavior and outcomes. Nearly one in five participants has an outstanding plan loan, and the amounts are large, 17% of account balance, on average. Nearly half carry credit card debt, and participants with high credit card balances are more likely to take a loan. High credit card debt also often coincides with lower contributions and smaller account balances, reducing retirement readiness by up to 40%, on average, for older participants.
It’s not that most people are using the money for luxury vacations or fancy dinners. Expenses related to housing and healthcare are the main reasons participants tap their retirement accounts. Putting on a new roof or paying for a big medical expense are not really optional expenses. Because of the leakage issue, it’s important for plan sponsors and financial advisors to think about how people are invested, especially during the 10 years leading up to retirement, which is the peak time when people take money out. If a portfolio has a very large allocation to equities, for example, pulling money out can create additional sequence-of-return risk.
EC: One issue that people have a problem with — regardless of their income or education — is translating their nest egg into annual income. Many people of relatively modest means often become 401(k) millionaires by the time they approach retirement and may feel very wealthy. Yet $1 million is likely to generate only about $40,000 in pre-tax annual retirement income, which is probably far less than a plan millionaire anticipates. Do you find that people have a realistic idea of how much income they will need in retirement and where it will come from? Do they expect their plan sponsor to provide some guidance?
MC: I have several thoughts on that. First, you allude to the 4% rule. Like a lot of so-called retirement rules of thumb, it’s broken. I’m not saying it’s bad, because it does serve as a guardrail, so I think it’s a good starting point. But at the same time, when we look at the Chase household data, we see that people don’t spend down their nest egg in the linear way that the 4% rule implies. We see people spending more in the early years of retirement. Maybe they have a bucket list and spend more time dining out or taking a vacation early in retirement. But as they age and slow down, we see their spending slow down too. We find that those at older ages tend to spend less on all categories except health care and charitable contributions, while those who live to the oldest ages may have costs related to long-term care.
Second, the transition from working years to retirement years can be difficult. We purposely avoid using terms like accumulation and decumulation, because that’s not how normal people talk about themselves and their money. They talk about saving and spending—which is how we talk about it. Many plan sponsors are aware that participants would like guidance about safe retirement spending, and more of them are looking at in-plan retirement income options. In one survey we did, we found that nine in 10 workers say they’d be interested in an in-plan option that gives them guaranteed income for life—as long as they retain flexibility and control. Since for many people retirement income and spending seems so uncertain, we have found that households with a greater share of pension, Social Security and annuity income tend to spend 35% to 40+% more than households having a low share of those vehicles.
We also see more advisors changing the way they engage with clients to focus on the shift from saving to spending. In terms of guaranteed income, we also see wider acceptance of the view that it’s not an all-or-nothing approach. Our research finds that when people see their guaranteed income source covering utility bills, property taxes and other basic expenses, they have more confidence and are less likely to act emotionally or impulsively with the assets in their portfolio. Also, there is a segment of retirees who are so conditioned to save and get so anxious when they start spending their retirement funds that they underspend in retirement. Having more guaranteed sources of income frees them to spend and enjoy their retirement.
EC: Any other important points from your research that we didn’t touch on?
MC: We’ve done a lot of work on Social Security and choosing the optimal benefit claiming strategy. But while Social Security and the other issues we discussed are important, the emotional side of retirement is also very important. For that, we use an acronym we call PUSH.
The “P” is for purpose. What’s your reason for getting up every day? It doesn’t have to be something big, but people should feel that what they do has meaning. The “U” is how you use your time—about having structure in your day. “S” is for socialization, which is the need to be with other people, not only for enjoyment, but for also health and wellness. And that leads to “H,” health. Your health matters in the decisions you make, and it can determine the kind of retirement experience you have. So, while the math of retirement matters, so does emotion. Our intent in our research is to marry the two.
Comments, observations, suggestions? Please email [email protected]