What You Need to Know
- Care must be taken to ensure mortality assumptions are reasonable because errors in estimates can significantly impact a client's retirement plan.
- When estimating how long they will live, people tend to underestimate the importance of factors like smoking and income.
- Advisors also much keep in mind households with higher levels of income are living significantly longer.
The length of retirement is one of the most important assumptions in a financial plan. Despite its uncertainty, care must be taken to ensure mortality assumptions are reasonable because errors in estimates can significantly impact the plan.
Recently, I explored the efficacy of subjective mortality estimates, or in less fancy terms, how accurate people are at predicting their life expectancy, in research published in the Journal of Retirement.
While there is lots of research on objective mortality factors (i.e., the actual drivers of life expectancy), such as smoking, there isn’t as much on subjective estimates.
The analysis primarily leverages data from the Health and Retirement Study (HRS), in particular a question in the original survey (in 1992) that asked respondents “What do you think are the chances that you will live to be 75 or more?” With an average respondent age of 58, it is possible to observe the accuracy of these estimates with respect to whether the respondent actually survived to age 75.
What Your Peers Are Reading
A benefit of using the HRS is that it tracks the same households over time and includes other information that is useful when exploring mortality-related topics, like health, smoking status, income, education, etc. The dataset includes 5,499 primary respondents, which is a good sample size.
This analysis suggests that while individuals appear to have some sense about their likelihood of survival (i.e., their subjective mortality), there are notable gaps in these estimates that are consistent with past research.
For example, respondents in the first wave of the HSA who said they had a 0% probability of surviving to age 75 actually had about a 50% chance, and those who said they had a 100% probability actually had about an 80% chance.