What is Longevity risk?
The risk that in retirement you will consume the wealth you saved up before you pass away.
How this risk plays out in the real world
Aug 24, 2017: Most Americans live paycheck to paycheck
Sep 26, 2016: It’s Not Just Brangelina (Americans 50 and older are divorcing in greater numbers, jeopardizing their retirement)
Jul 19, 2016: California’s Pension Funding Crisis Just Got Worse
Oct 27, 2015: Why 8,737 UPS retirees are bracing for pension cuts
Oct 20, 2015: Companies increasing dollar-for-dollar 401(k) matches
Mar 30, 2015: Almost Half of Americans Aren’t Saving Nearly Enough
Sep 07, 2014: America is Turning into a Nation of Freelance Workers
Feb 20, 2014: Your Wilting Retirement: Company 401(k) Plans Get Stingy
Nov 07, 2013: Consumers Have Unrealistic Expectations About Retirement, Study Says
Sep 23, 2013: At 77 He Prepares Burgers Earning in Week His Former Hourly Wage
Sep 04, 2012: Many New Jobs Are Low-Wage (And Bad For Our Retirement Savings)
Sep 04, 2012: Financial crisis ushers in ‘The Age of Safety’ for investors
Sep 15, 2010: Retirement on Hold: American Workers $6 Trillion Short
Connection to other risks
This risk relates to Inflation risk. Even if you save up a big pile of money over several decades, if inflation is significant over that same time period, what you earn with your investments may not buy enough for you to live a reasonable retirement. For example, if inflation is 3% per year, in just 24 years, the prices of the goods we buy and services we consume will double.
How investors can manage Longevity risk
- Save up enough money that you can live off what your savings earn each year. By never having to spend any of the wealth you accumulated, it will earn money for you year after year. For example, if you accumulate $1 million by retirement and earn 5% on it, that’s $50,000 coming to you each and every year. Of course, as you are nearing the end of your life, you can also start spending the $1 million itself.
- Purchase an annuity, a special type of investment / insurance policy that allows you to pay an insurance company money in the years leading up to retirement and to collect money from the company from the year you retire until you pass away.
A final word
After the Great Recession, the Federal Reserve Bank embarked on a near decade-long “zero interest rate policy” or ZIRP. Doing so made it difficult for retirees to achieve a reasonable rate of return on safer investments that pay a fixed rate of interest each year. This policy virtually forced retirees to keep a significant amount of their wealth in the stock market in search of reasonable rates of return. However, the stock market can experience significant losses, something retirees can ill afford. With the Federal Reserve Bank raising interest rates in the 2015 to 2018 and beyond, investors who prefer fixed interest rate investments may finally be able to once again earn a reasonable rate of return.