Creating Income for Life

With an estimated 78 million baby boomers poised to retire over the next 25 years, financial advisors face widespread challenges meeting the needs of this burgeoning population. Just as this generation has determined the nation’s social agenda for the past 50 years, so will it now redefine our understanding of retirement and the aging process. Among the most significant demands this will place on advisors is how to find ways to help retirees select methods for generating safe, predictable income for a protracted period of time not seen in previous generations.

In fact, a “perfect storm” — with low interest rates, volatile stock markets and unprecedented longevity as its major components — has emerged over the last few years. As fewer employers offer defined benefit plans, retirees no longer have the luxury of counting on guaranteed pension income to supplement Social Security and personal savings. Meanwhile, the inability of politicians to address issues related to the long-term solvency of the Social Security system raises doubts about the sufficiency of the average person’s nest egg.

Adding to these complications is the often-held perception that the typical person does not need the services of professional financial advisors when planning for retirement. A recent study by American Financial found that roughly 56 percent of the affluent population surveyed (all participants made $70,000 a year or more) simply don’t utilize the services of financial advisors for their retirement planning needs. This attitude may have been permissible for previous generations when life expectancies were shorter and pensions guaranteed one’s income in retirement. Today, given current complexities and the irreversible nature of most decisions related to retirement distributions, it is no longer appropriate.

The typical retail investor also fails to understand that retirement accumulation strategies are inherently different than the tax and investment strategies that will eventually become necessary in the creation of a sound retirement distribution strategy. As advisors, it is part of our job to sound the alarm and help America’s largest generation find their way safely through their retirement years.

Challenges Facing Advisors

Given the sheer demographic weight of this population and the challenges confronting it, financial advisors have shown increasing interest in reexamining strategies for addressing retirees’ need for safe, predictable income. This sense of urgency was exacerbated by the long bear market of 2000 to 2002, when clients and advisors alike got a close look at the shortcomings of strategies such as “constant percentage,” “constant dollar amount” and “dividend only.” As the value of equities declined, those using the first two methods realized either a reduction in income or a steady erosion of principal. During the same period, interest rates declined, reducing income that retirees could derive from traditional fixed-income securities as well as cash products like CDs.

For those in or entering retirement during this period, discussions concerning “reversion to the mean” and the long-term advantages of asset allocation were often drowned out by the fear that maybe this time it truly was different and equity markets would decline indefinitely.

Since then, the financial industry has seen a proliferation in the number of ways advisors can help their clients set up retirement income streams. There is the single product solution, in which the investor solves all needs for future income and growth by purchasing a product such as a variable annuity that carries an income rider. Some strategists have taken to advocating the systematic withdrawal approach, in which the advisor creates a diversified portfolio and the client takes income on a pro rata basis. Once a year, the portfolio is rebalanced into its original allocation percentages.

The final school of thought — represented by national recognized authorities such as Phil Lubinski, Paul Grangaard and Ray Lucia — divides the retiree’s life expectancy into segments and selects different investments for each segment based upon the need it is designed to address.

The Income For Life Model