Savings & Investing

Working to take longevity risk off the table

Jun 6, 2016

Enabling individuals to incorporate longevity estimates into their portfolio planning can help them to efficiently use their retirement savings and guide their saving and investing.

The defined contribution system has transferred the management of retirement risk from collectively managed entities to the individual. Over the past two decades, the DC system has evolved to manage one aspect of retirement risk, namely the problem of managing asset allocation for individuals as they move throughout their career. Today, enormous amounts of capital sit in DC plans and millions of people across the globe are retiring. Considerable individual and social well-being depends upon that capital being used efficiently. Unfortunately, this requires individual retirees to manage the most difficult of retirement risks: longevity risk.

Managing longevity risk is difficult for two reasons. First, it requires that people estimate how long they will live, which is nearly impossible to do in any meaningful way. (While you might assume that people will typically make the mistake of being overly optimistic, they actually tend to under estimate their longevity.) Second, they are also unable to estimate how much money they will need for retirement. Under estimating their need can lead to running out of money. Overestimating it means they may not enjoy the standard of living in retirement they want if they were able to use their savings efficiently.

Traditional pension plans manage longevity by incorporating mortality tables into their investment management. While individual lifespans are unpredictable, the mortality of a large group is more predictable. That means pension funds can better predict their pension liability – how much they might need to pay each year – with greater accuracy. If individuals were able to consider the insights of mortality tables, they could be better able to plan their retirement savings, investments and retirement spending in a more efficient manner.

This is what the BlackRock CoRI Indexes seek to provide. Using some of the same factors that insures use to price annuities, CoRI Indexes estimate the cost for each dollar1 of retirement income based on the year an individual turns 65. This estimated cost per dollar of retirement income allows them to quickly calculate the retirement income a portfolio could provide or estimate the portfolio needed to fund a given level of income. Because the index levels incorporate actuarial assumptions, longevity estimates are “built into” the income estimates. This enables individuals to do several important things:

  • Understand their portfolio in terms of estimated annual retirement income, giving them a better sense of how they could live in retirement.
  • Set a real-time benchmark for their potential future income stream, allowing them to make adjustments while there is still time to work towards goals.
  • Provide real time analysis of their retirement spending so that they can efficiently spend at a sustainable level without having to make an individual mortality projection.

By tracking a specific CoRI Index, individuals are monitoring their estimated cost of retirement. (All things being equal, income gets more expensive as an individual gets closer to 65 and less expensive each year after 65. The indexes also track other factors that may influence the cost of income, such as interest rates.) Using the CoRI Indexes helps individuals to understand their portfolio, and create a savings and spending plan with longevity factored in. In effect, this approach greatly reduces “longevity risk” as a primary concern.

What’s more, individuals can actively track the gap between their current income potential (based on today’s portfolio value) and the income goal they have set in a very clear, intuitive way. In a broader sense, we can now begin to change the retirement investment conversation. Much in the manner of institutional pension funds, individuals can now think in terms of their retirement liability – the money they will want to pay themselves every year in retirement. And they can begin to manage their portfolio in order to help meet that obligation.

For more detail, here is a list of the current CoRI Indexes and their levels:


Working to take longevity risk off the table

Hear Chip Castille share his ideas on how to incorporate longevity estimates into portfolio planning and efficiently use retirement savings.