About 100 years ago, when the current, generally accepted retirement age of 65 years was first proposed, life expectancy was just 32 years for men and 35 years for women. To quote Hobbes: “life was nasty, brutish and short”.
But with improved lifestyles and fantastic advances in health care, in parts of Western Europe, Japan, Australia and the US, life expectancy is now in the high 70s or early 80s for both men and women. So, to quote another famous economist, John Maynard Keynes, “when the facts change, I change my mind”. And the facts around life expectancy have changed. If you retire at 65 today, and you have access to advanced medicine and science and a good lifestyle, then you should be anticipating living at least 15 years in retirement.
Even as recently as the 1970s and 1980s, in advanced countries, retirement was still only 65 and life expectancy was 70 years. So you would expect to live an average of just fiveyears in retirement. If you’d been working for 30-40 years, that was time aplenty to have banked the retirement funding needed for living in retirement.
Now, with life expectancy moving higher and age of retirement having moved lower than 65, many societies are pushing deeper into uncharted retirement funding territory. In many of the countries with elevated living standards, people are outliving their retirement funds.
What we’re seeing in many advanced countries is that with retirement age now in the early 60s and life expectancy at roughly 80, available funding covers only about 50% of the retirement period. Your first eight years are covered by your own funding, but the next eight years or so you’re not supporting yourself, you’re at the mercy of someone else. That might be a state pension, your family, or it may simply mean poverty in retirement.
People are living longer because they are healthier. Great! But that has implications for traditional retirement planning and asset allocation with an investment portfolio.
Several implications flow from this. First, 65 is arguably a retirement age anchored in history. We retire at 65 because our parents and grandparents retired at 65. At the very least we should be guiding our children that 65 is not a retirement age; 65 is now remarkably young, and we should be speaking this truth to ourselves, telling ourselves that the facts have changed. Indeed, if you just keep pace with life expectancy, then statistically, retirement age is no longer 65, it’s closer to 75. So readers of Acumen should be anticipating retirement at 75 with life expectancy of 85 or even longer.
Second, an important rule of thumb – and you can do your own calculation in this one - says that with every four years that pass, gains in scientific and medical progress add one year to your life expectancy. For example, I’m 47 right now, so if I take life expectancy to 80, that says to me 80 minus 47 is 33 and 33 divided by four is roughly eight. Which means there are eight lots of four years between now and my current life expectancy. Therefore, I can add another eight years to my life expectancy, which means my life expectancy isn’t 80, it’s more likely to be 88.
So if my life expectancy is now 88, then either I need to have adequate funding for 20-plus years of retirement, or I don’t retire until I’ve got much closer to 88. Maybe I retire in my mid- or late-seventies?
Another point applies to my kids, who are 10 and 13. Their life expectancy is into the 100s. Thus, their retirement age is probably in the 80s or even 90s. If that seems fanciful, just think of the life expectancy of your grandparents and your great-grandparents. It starts to translate into “Aha! I see what can happen.”
Most important, at 65 you should no longer be investing like a 65-year old, but rather investing like a 45-year old of thirty years ago. Conventionally, when you hit retirement, the rule of thumb is to take about two thirds of your assets and allocate them to equities, the risky asset class. Equities give better long-run returns but their return profile can be very bumpy. The remaining third goes into cash and government bonds, which give you a yield and, the theory goes, you’re financially safe.
But if the rules have changed so that you work and live longer, then you don’t need to turn your asset base into a “retirement portfolio” at 65. You can keep it invested in so-called growth assets, such as equities and property, for longer than conventional wisdom would have. Whilst we talk about equities being risky, one of the biggest risks that you can take is not having enough risk in your portfolio at 65.
In short, at 65, you need to be investing for the next 20 years, not for the next five.