When attempting to deal with longevity risk, ask a simple question: Is your client a stock or a bond? That’s the message finance professor and author Dr. Moshe Milevsky delivered to attendees at Pershing’s Insite conference on Thursday, June 10, in Hollywood, Fla.
Milevsky began by noting the 73,000 individuals currently over the age of 100, and some 2 million individuals over the age of 90. These are demographics, he said, that are sure to rise. Longevity risk is an increasing threat, yet one of which advisors know little.
“We understand disability risk. We understand mortality risk. We do not understand longevity risk,” he lamented. “The reason we don’t understand this risk is we hedged against it with pensions. This is no longer the case.”
In 1985, 89% of the working population had a defined benefit plan, according to Milevsky. By 2002, the number had dropped to 50%. In 2010, the number stands at 16%. Advisors don’t understand it because until now, they didn’t have to.
“For many pre-retirees, in addition to being their CFO and financial advisor, you’ll also be their pension manager,” he advised. “Retirement income, and the needs it must fill, is a liability on their balance sheet. It must be accounted for, and this is a whole new way of thinking for the advisor and clients alike.”
The way to do this, he says, is to account for human capital as well as financial capital; something that must be done in tandem. The present value of future earnings is an asset, even though it is not immediately realized. Students, for example, that delay entering the workforce in order to receive more education are increasing the value of their human capital. Milvesky compared it with gold waiting to be mined. The gold is worth something even though it has yet to be extracted.