Can You Afford a Long Life?

Many people approaching or in retirement share a dark financial fear: eventually running out of money.

For some, this scenario isn't far-fetched — but for a different reason than they might think. They may be significantly underestimating their longevity.

Of course, those with substantial wealth aren't really investing for themselves late in life as much as they are for their heirs. But regardless of the size of a couple's resources, if they make the wrong financial planning moves in retirement, they could see these resources shrink unexpectedly, threatening their security, their legacies or both.

Ironically, many retirees increase their financial risk by investing in ways that they assume will reduce it. This problem can get far worse if they significantly exceed their expected longevities.

Many people think about longevity in terms of life expectancy at birth, a statistic that's usually published without explanation and widely assumed to be predictive.

For Americans, the current figures for this are 80.2 years for women and 74.8 for men, according to the Centers for Disease Control (CDC).

Many retirees, focusing on superficial media coverage of this somewhat Darwinian statistic, seem unaware of how it's calculated. Life expectancy at birth figures consider everyone born in a given population, including all of the individuals who die young from childhood disease, car accidents, natural disasters, murder or whatever reason.

Of course, average longevity naturally extends as people age, avoiding premature death. So the pertinent statistic for those in or approaching retirement is one that estimates how long the average person their age is likely to be around.

For Americans aged 65, this figure is 19.7 years for women and 17 years for men, bringing average life expectancy to 84.7 and 82, respectively, according to Organization for Economic Co-operation and Development.

These figures are for the overall American population. But according to a 2020 study, married men and women on average live longer than single men and women. And according to current Social Security Administration life tables, the average last survivor of male-female households lives to 89.

Even when considering this more-generous figure, many 65-year-old couples (including those in good health with healthful lifestyles) might assume that expecting one partner to live to their mid-90s would be a stretch.

Yet, according to an actuarial study released last year, this is a statistically reasonable expectation. The study, by Massimo Young, a chartered financial analyst, and Erik Pickett, an actuary and mathematician, projects longevity based on various factors, including continued advances in life-sustaining medical care.

It found an estimated 50% chance, on average, that one partner in a male-female couple currently aged 65 will live to between 93 and 95.

This finding has profound implications for personal financial planning. It means that it's not as late for many retired couples as they may think, and they may need to manage their nest eggs accordingly. Yet many retirees following traditional financial planning advice may be investing the wrong way to cover unexpected years of living.

This advice is for retirees to have a portfolio weighted heavily in bonds, and to increase bond exposure with age by liquidating more and more stocks.

Yet this has never really been an appropriate plan for some couples following it, including those who have retirement income streams fueled by substantial Social Security accounts or good corporate or government pensions. To the extent that these couples can live on this income, they could let their stocks grow longer without selling them to buy bonds, as they're typically advised to do.

Even for many couples with modest portfolios and lower retirement income, too much exposure to bonds too soon in retirement may be nonetheless misguided, especially if one partner eventually becomes a nonagenarian.

Financial advisors who recommend a bond-heavy portfolio throughout retirement argue that stocks pose too much risk. If couples are forced to sell stocks when the market is down, this rationale goes, they could end up taking a big hit.

But contrary to popular belief, bonds are by no means risk free. They carry risk for a variety of reasons, not the least of which is that they can suffer extensive value erosion from inflation.

If inflation rises enough during the term of a bond and the purchaser holds that bond until maturity, its principal and interest can end up losing buying power. This means principal and interest together ultimately may buy less than the principal alone did at the time of investment. On the other hand, if bondholders sell on the secondary market before maturity, inflation can mean taking a big hit on price.

Though down significantly in recent months, historically high annual inflation — 7% in 2021 and 6.5% in 2022 — prompted retirees to take more money out of investments than expected to pay living expenses, according to a recent study by the Center for Retirement Research at Boston College. During that period, inflation exceeded the interest rates paid by many existing bonds.

Recently issued bonds with the best credit ratings — Treasuries and investment-grade corporate bonds — are paying between 4% and 5% annually. Based on the most recent consumer price index measurements by the Bureau of Labor Statistics, inflation is currently about 3.4% year-over-year. But inflation may spike again, threatening bondholders with potential net losses.

This particular risk is minimal for stocks. Overall, stock market returns have historically averaged about 10% annually. What's more, unlike bond interest, stock market returns are by no means fixed, and, as corporate earnings can improve from inflation, stock prices can, too.

Many retired investors greatly fear what they believe is another risk — volatility, the stock market's ups and downs. Often, they equate volatility with risk, but the legendary investor Warren Buffett says they are actually completely different.

Risk is what might happen, while volatility will definitely occur, Buffett explains, adding: "If the investor fears [stock] price volatility, erroneously viewing it as a measure of risk," he says, "he [or she] may, ironically, end up doing some very risky things."

One of these risky things might be to prematurely sell stocks to load up on bonds, forgoing the stock market's far greater average gains over time.

By expecting volatility, investors can plan for it by assuring enough time in the market to make up for down periods. Thus, long-term investors can reduce risk.

And, according to longevity projections, many 65-year-old couples are as likely as not to be longer-term investors than they probably expect, with perhaps 30 more years for shares to grow for one partner.

By contrast, bonds provide no growth whatsoever. If you hold them until maturity, all you'll get is your principal plus the stated interest rate; that's it.

Depending on an investor's individual circumstances, there's nothing wrong with maintaining a substantial portfolio allocation to bonds in retirement.

However, depending on their age, health, risk tolerance, retirement-income streams and expenses, many retired couples may be converting stock assets to bonds too soon and too rapidly.

They might be planning for a much shorter life than they're statistically likely to have. In this sense, the greatest financial risk they face may be unexpected longevity.

Investments mentioned in this article may be held by those firms, Innovative Portfolios' ETFs, their affiliates or related persons.

Dave S. Gilreath is a Certified Financial Planner and a founding partner and chief investment officer of Sheaff Brock Investment Advisors, an investment management firm for individual investors, and Innovative Portfolios, an institutional money management firm. The Indianapolis-based firms managed assets of about $1.5 billion as of March 31.
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