MASTERCLASS: Retirement Income

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  • 01 hr 01 mins 19 secs
Investors are facing a growing list of risks in retirement and the volatile, inflationary environment is only further stoking fears. Four experts cover how retirement income solutions are addressing these risks, the key components of a strong plan, the role of guaranteed income, whether the 4% rule is still a safe strategy, and much more.
  • Nick Arndt, CFP®, ChFC®, CLU®, Director, Advanced Markets - Transamerica
  • Roberta Rafaloff, Vice President, Institutional Income Annuities - MetLife
  • Julie Varga, Vice President, Investment and Product Specialist - Morningstar Investment Management LLC
  • Michael Visconti, CFP®, CIMA®, Vice President, Divisional Sales Manager, Retirement Strategies - Prudential


Jenna Dagenhart: Hello and welcome to this Asset TV Retirement Income Masterclass. We'll cover the growing list of risks that people are facing in retirement, the role of guaranteed income, what goes into a successful plan, and much more. Joining us now we have Michael Visconti, vice president in Divisional Sales Manager Retirement Strategies at Prudential. Roberta Rafaloff, vice president Institutional Income Annuities at MetLife. Julie Varga, vice president, Investment and Product Specialist at Morningstar Investment Management, and Nick Arndt, director, Advanced Markets at Transamerica.

Jenna Dagenhart: Well, everyone, thank you so much for being with us today and kicking us off here, Mike, what are some of the key components of a strong retirement plan?

Michael Visconti: Thanks, Jenna. I appreciate that. And as you take a look at a retirement plan, what I would say first and foremost is have a plan. I mean, that's critical and making sure that you're sticking to that plan during good times and in bad. But there's really the three, the trilogy that I call it around the retirement plan, that's needs, wants, and wishes. And so, if you think about this in like a triangle, the needs portion of that is to really make sure that you're having a cash flow of making sure predictable and consistent cash flow is coming into to basically pay for your bills. And as you think about that, that's the critical bills, the heat, electronics, the electricity, whatever it may be. And then you have kind of like your wants, because people think about their retirement and their retirement plan. It's all the stuff that you want to do. The stuff that you say, you know what, maybe want just more eating out, maybe want to do more entertainment, whatever that may be.

Michael Visconti: But the needs portion critically needs to be taken care of so that you are able to do the things such as the ones. And then we talk about the wishes. The wishes is basically, you know what, the bucket list items, you want to go on this big trip that you never were able to do. You want to be able to go somewhere and do something with your family or friends and loved ones. But again, kind of rounding this out, it's really making sure you stick to that plan, that's A. But B, as you take a look at the trilogy of the foundation of the plan is ensuring during good times and in bad, the predictable cash flow is going to come in. And that's where Social Security Annuities and other predictable income features, pension plans, will make sure that they cover for that. And then as you think about other different types of vehicles, those will help with your wants and your wishes.

Jenna Dagenhart: Roberta, what role do guarantees play in a retirement income strategy?

Roberta Rafaloff: Sure. So I'd say today plan participants really need to figure out largely on their own. A, how much they need to save for retirement and then how much can they actually draw down from those savings once they're retired so that their money does last their lifetime. So one approach people may consider is to keep their retirement assets fully liquid, and that way, they can keep all of their assets invested in the market. They can take withdrawals as a spend down strategy. This could mean they take a systematic withdrawal program or they used a managed account platform. And this approach really offers full flexibility, but there are few, if any, guarantees. And as a result, once the plan assets are depleted, there really is no more opportunity for further income.

Roberta Rafaloff: I'd say, however, there are solutions that can help protect against this potential pitfall. And since most people are accustomed to gearing their monthly spending to the income they earn during their working years, it would stand to reason that they would be best equipped to manage their expenses in retirement based on a guaranteed amount of monthly income rather than trying to navigate that complicated challenge of prudently spending down their assets without doing so either too quickly or even at an in opportune time.

Roberta Rafaloff: So a fixed income annuity such as an immediate income annuity or a deferred annuity, specifically a deferred qualifying longevity annuity contract, lovingly called a QLAC. These two really are the most economically efficient ways for participants to secure that basic layer of retirement income. And I'd say these solutions really help retirees budget those expenses while also protecting against market and longevity risk. And those two really are the greatest risks that an individual is going to face in retirement. So guaranteed stream of income makes planning and budgeting easier and it really does help avoid the risk of either overspending or also underspending in retirement. In fact, MetLife conducted a study, we call it the '22 Paycheck or Pot of Gold Study. And that really illustrated the benefits of a guaranteed stream of income for budgeting and planning.

Roberta Rafaloff: And what we found was that nearly all of the annuity only retirees that we surveyed, they're using their defined contribution plan money for some type of ongoing expense, day-to-day living expenses, housing expenses, things like that. And then 94% of those people that we surveyed agreed that receiving these annuity payments does indeed make it easier for them to pay for the basic necessities. And 95% say that receiving this monthly annuity payment really does make them feel financially secure. And as a result of all this, nearly all of the annuity only recipients said that they were happy that they did choose to receive their retirement income or their retirement paycheck from their defined contribution plan.

Jenna Dagenhart: And on the flip side of that security, I'm sure it could also be a shock to the system when you're used to getting that paycheck and then it disappears in retirement if you don't have some kind of guarantee. Now, Nick, what are some of the risks to the success of a retirement income plan?

Nick Arndt: Yeah. Thanks, Jenna. Well, helping clients identify and really understand those risks in retirement is fundamental to the work that financial professionals provide. And there are many risks to retirement income plans, some that might not be as obvious to clients, but I'm not going to go through the really exhaustive list, but I can review some of the more important ones. I really like to categorize them in the three or four main topics which each have three or four risks associated. So the first main topic, their risk to outliving your assets, so longevity risk. Clients need to really consider a realistic life expectancy because longevity is not only a risk in itself, but it's also a risk multiplier for many of the other risks. And Social Security Administration estimates that one in 365 year old state will live past 90 and one in seven will live past age 95. Inflation risk. During retirement, higher than usual inflation can have a significant impact on the purchasing power, really hindering those clients' ability to maintain a desired standard of living.

Nick Arndt: And we've seen lower than historical normal interest rates for some time now, but now, we're starting to see inflation increase significantly. Also, having some certain categories of spending have different historical rates of inflation. So for example, healthcare typically has a higher level rate of inflation than many essential needs in retirement like food. And another risk under that topic is excess withdrawal risk. So once clients reach retirement and have to change from accumulating savings to the de accumulation phase of taking withdrawals from their nest egg, there is a risk that the rate at which that withdrawal occurs will completely erode the portfolio before the retiree passes away.

Nick Arndt: The second general main topic I like to view is categories are risks associated with being a human and just aging health expense risk, which some studies show is the number one concern for retirees, even not accounting properly for costs associated with health insurance and retirement can be a risk.

Nick Arndt: Health view services estimates that a healthy 65-year old couple today will need $425,000 in today's dollars to cover premiums for Medicare Part A, B, Medigap dental out-of-pocket expenses, and that's for a healthy couple. Imagine the estimates for a retiree with chronic or acute illness. Long-term care is another risk. We know 70% of all people age 65 will need long-term care at some point in their lives. And Alzheimer's is the number one cause of need for long-term care. And the Alzheimer's Association estimates there are 6.5 million Americans living in the United States with Alzheimer's frailty risk. If a retiree lives long enough to deteriorate their mental or physical health, it may cause them to lose legal capacity to make financial decisions on their behalf.

Nick Arndt: And then one that's often overlooked elder abuse risk, the estimates of the annual financial loss due to elder abuse varies from 3 billion to 36 billion depending on the definition of abuse. But regardless of the definition, it is a very real risk for many seniors in retirement and can devastate a retirement income plan. And then that last group I'll mention is risk impacting the retirement assets in investments that make up the retirement nest egg. Market risks. The risk of losing portfolio value due to negative market returns. The five years before retirement and the five year period starting retirement, our win retirees can least afford bad market returns because it will have a lasting impact on the success of the retirement income plan. Interest rate risk primarily associated with bonds in a retirees' portfolio as interest rates rise, we know, which is currently happening, the value of bonds will decrease.

Nick Arndt: Liquidity risk, not having assets readily available to cover an expense, the ability to be able to sell an investment at a reasonable price quickly. And then a really important one might be overlooked sequence of returns risk. As I mentioned earlier, that 10 year timeframe, five years before retirement and the five years of starting retirement is the retirement risk zone and retiring at the start of a bear market can more rapidly deplete a retirement nest egg. And this risk zone has a disparate impact on wealth accumulation through retirement and retirement income success.

Jenna Dagenhart: In light of all these risks, Julie, how was the retirement income industry evolved in the last few years to offer better solutions?

Julie Varga: That's a great question. There have definitely been significant changes to the retirement landscape in the US over the last several years. You've got far fewer retirees being able to rely on pensions for retirement income, which we're certainly helpful in alleviating longevity risks and more looking at guaranteed products. And so, when the SECURE Act passed a few years ago, planned sponsors really started to consider lifetime income strategies much more seriously to help protect against risk for their participants. And I think a lot of sponsors have traditionally been hesitant to potentially use guaranteed products. A lot of times when that happens, a larger employers are the first to introduce innovation like that in plans, and then mid and smaller plans feel more comfortable with it. So this holds true for things like the use of collective investment trusts, which is fairly widespread right now fee compression and having more customizations in default investment options.

Julie Varga: It also has typically held true with the use of lifetime income options. When larger employers embrace these concepts, it helps them to succeed across other retirement plans. The SECURE Act also really brought the use of guarantee products to light and made them more a part of the mainstream conversation about them with sponsors. And one final thought on this here is this trend toward personalization. A lot of sponsors understand that their participants don't all require the same strategy, especially as it relates to their retirement years, they want to be viewed based on their individual situation and receive assistance based on what's happening in their life, whether it be around allocating to a guaranteed product or understanding how they should be investing and when they should take social security. So, that's become more of a part of the considerations that plan sponsors are having.

Jenna Dagenhart: From the perspective of a financial professional, Mike, as we look at the overall market today, what are some of the risks that a financial professional needs to be aware of?

Michael Visconti: As you think about that, and I think Nick and Julie both outlined it a couple of things, but let me expand a little bit more. So, some of these things obviously are highlighted, but also I think we can think about this in a couple different ways. So as you know, you think about risk first, I think it's really important to bucket risk into two areas. One is, what can you control, and the other is, what can't you control? And so, if you go back to whether it's the CFP or whether it's various different licensing exams, they bucket into systematic and non-systematic risk. And so, as I think about it as, all right, what can I prepare for and what do I have to hope for? And so, Nick is talking a little bit about inflation, but as we think about from a financial planner's point of view, historically, what we would think about is inflation would be just like a demarcation line of, call it, a 3% number.

Michael Visconti: And that's what we've seen over our last number of years except for recently. So, if you look at headline inflation, headline inflation is really defined as the following: it's shelter, it's restaurants, hotels and transportation, it's food, so food at home, so you have restaurants through one category, food at home is another, new and used vehicles, energy and then this category that they call other. So all that wrapped together in July, headline inflation came in at about 8.5%. And we've seen that basically hold true the last couple months. So we haven't seen this risk in the last 40 years. And where it's going, it's guest and we can debate that in other discussions. But as you take a look here and you go back to history, as you've seen in the last four years throughout history, every time there's a major spike inflation, there historically has been a following recession.

Michael Visconti: So, for example, in 1972, inflation hit about 12% recession, and then it fell back to about 5% until about '78. Then it shot up again about 15% causing recession in '79 and then '81. So from that point moving forward, we haven't really seen a major move in the headline CPI until briefly when we saw it in like 1990 and 2007. So gas prices really have started to come down, but listen, I've got two young kids, I see it with the food prices, the milk prices, those are still really, really high. It's an obvious risk. We've talked about this and we're hearing more and more about this, but I don't think financial plans is historically accounted for. So that's one. It was also mentioned about longevity risk. Let me just take that a little bit differently as well. Yes, people are living longer and as you think about it, longevity is a force multiplier to everything that any risk is out there, whether you're able to prepare for or whether you're able to not prepare for.

Michael Visconti: So it's 5 million Americans are over 65%. 27% who are age 65 to 74 are still working, and 9% of those working are 75 and over. So the reason why a lot of people stay working at that age is quite frankly is able to so that this way they can stay active, they want to stay involved, they want to have purpose. Both 50% stated it was because they needed money to buy extras or avoid reducing their nest egg. So what's really interesting is that people become more afraid. And that leads into my third risk, which I think is a significant risk that we're starting to see this now a lot more, which is behavioral risk. So when the markets are moving up and you're drawing off your portfolio and your portfolio, again, on average is historically growing with it or maintaining, the behavior and the fear doesn't really show itself.

Michael Visconti: But when you start showing markets that are going down and you're drawing off your portfolio, you're starting to see behavior start coming out such as loss aversion, anchoring, hurting, these are all things that we learn about, we hear about, but now you're really starting to see themselves manifest, and as we all know, when you start to having emotions at play and when decisions are based with emotion, that's when plans specifically for financial planner become very, very, very much at risk. So I should kind of look, yes, we've got longevity, yes, you have inflation, but I think what we're starting to see and what financial planners historically are starting to see now more than ever is client's behavior coming into play and doing things that are going to take them off the plan that they set out too to bring to bear.

Jenna Dagenhart: Roberta, what would you say are the risks that planned participants face in retirement, and how do retirement income solutions help address these risks?

Roberta Rafaloff: So I think we've heard from the other panelists that there are quite a few risks that people face in retirement, we have market risk, inflation risk, longevity risk. So all of these challenges face participants when it comes to first planning for retirement, and then secondly, living in retirement. So I would say that the need for that steady level of retirement income has never been more critical, especially since we all know, and it was mentioned a few minutes ago, fewer of us can rely on and come from defined pension plans going forward. So one temptation people taking all of their retirement savings as a lump sum, but you have to realize there can be significant drawbacks to that, including depleting your retirement savings far too quickly relative to how long you're going to live. So again, according to our 2022 Paycheck or Product Gold Study, what we found is that one in three retirees who took a lump sum from their defined contribution plan actually depleted that lump sum in only five years on average.

Roberta Rafaloff: And what's really startling about that is that that is actually up from our first Paycheck or Pot of Gold Study that we did in 2017. In 2017, we found that one in five retirees who took a lump sum from their retirement plan depleted that lump sum on average in five and a half years. So it's actually gotten worse. And this has really true, especially true for women. 43% of women versus 29% of men have already depleted their lump sums in retirement. And among all lump sum recipients, just under half of them express at least some regret about withdrawing the money from their defined contribution plan.

Roberta Rafaloff: And this is not unusual, in fact, I'd say it's common. People can make hasty and unwise decisions when coming into a sudden financial windfall and they all spend express remorse later on when they actually need that money, but it's no longer available because they spent it. And this is sometimes referred to as the lottery effect. In other words, somebody suddenly being offered what is or what is perceived as being a large sum of money. And in the case of a retirement plan, this may be more money than an individual has ever had access to before at one time.

Jenna Dagenhart: Can some of these risks to a retirement plan that we've been discussing be mitigated, Nick? And if so, how?

Nick Arndt: Yeah, absolutely. The good news is yes. And there is more than one way to crack an egg, so to speak. There are multiple solutions to each risk category which financial professionals can review with their retiree or pre-retiree clients. Some may not be as palatable as others, but every client's retirement picture is going to be unique to themselves. So strategies for living too long can include just working longer, putting off that retirement date into the future, or possibly working part-time while they're retired, being flexible with spending to lower or eliminate certain expenses. Some clients may want to transfer the risk by creating sources of income that provide income for life. And one of these sources is Social security. And by deferring Social Security benefits until age 70, it will result in the maximum benefit, which also adds inflation protection. And studies show 50% to 60% of Americans file for Social Security early at a reduced benefit amount.

Nick Arndt: And one study indicated 33% of these individuals cited, the reason that they filed early was simply because they had the opportunity to do so, it had nothing to do with the need for the income. So this shows a lack of financial literacy when it comes to Social Security and financial professionals can add a lot of value to a retirees retirement income plan on this topic. Another ways to invest in some kind of annuity with lifetime payments, possibly with an option for increasing payments over time or having indefinite income from maybe a home equity conversion mortgage or rental properties or business interests or dividend paying stocks and bonds and having a contingency fund can also help address a number of risks in retirement. Staying active, living a healthy lifestyle can help mitigate the risks associated to aging. Understanding the different options for health insurance while in retirement is important for clients.

Nick Arndt: One often overlooked benefit of having a high deductible health plan while working is the opportunity to invest in a health savings account or HSA. These are triple tax advantage accounts that I encourage everyone to consider and purchasing long-term care insurance may be a way to transfer the long-term care risk that we know 70% of retirees will encounter. And looking at hybrid insurance or annuity products with a long-term care provision is another way. Having powers of attorneys for healthcare and finances and updated will and having advanced directives can also be important. And addressing investment in market risk is primarily about planning and making adjustments as needed. Having buffer assets can be important for the success of that plan. Using sophisticated financial planning software can also be important to show the clients how the effects of certain market conditions are on their retirement nest egg and the ability to maintain a successful retirement income plan. Implement the plan, have those guidelines built in on how to adjust for those certain market conditions and give the client options because everybody likes to have options when making decisions.

Jenna Dagenhart: So, Mike, now that you've alerted us about all the various retirement risks, what do we do? We want people to be able to sleep at night.

Michael Visconti: I mean, what do you do? That's obviously it's a large question. But I think the best thing that I see today, and this is just really about humanity, it's ability for survival and adaptation is the essence of survival. And so, as you think about the generations before and then you think about the challenges today, the generations before, yes, life was a lot simpler because longevity wasn't as big of an issue. So pensions, working, get Social Security, that was kind of all you needed to do and you didn't really have the ability or really have the avenues to save as you have today. Generation before, I'm talking like my grandparents, etc. from there is that their retirement security was really bound from their employer and they didn't have 20, 25, 30 years in retirement. And really typically on average it may have been far less than that.

Michael Visconti: So therefore, the need for retirement and planning didn't really have to last almost as long as a tea during accumulation. So with that, they also didn't have the access to healthcare that we do today. If you think about a statistic that I was just recently brought to is that anecdotally if you asked a male in the year 1900, if his mother is alive or 21 year old male, his mother is alive, if you asked that same male today at 21 years old, the same percentage would say yes. So again, somebody who is 1900, 21 years old, the likelihood that their mother is alive is the same percentage that their grandmother is alive today.

Michael Visconti: So that just goes to show you right where things have changed, but it's also because of healthcare. So if you look at the innovation and you look at the changes, and Nick mentioned a couple of different items, but one thing that I think about in terms of just asset protection but also asset growth is you're starting to see things come out of insurance companies specifically in the annuity space beyond just income for life, there's things called registered index-linked annuities, RILAs for sure, these are "newer", and the reason why I say "newer" is that they've been around for a number of years, but you're really starting to see more and more innovation on these types of products, you see more and more [inaudible 00:26:01] offer them, for example, like Prudential. And what you're going to find is that they give you a level of upside capture with downside risk mitigation.

Michael Visconti: So as a client who is looking to minimize the number of risks that we sought out to discuss, they have the ability to get market participation or get an index level of participation, but also elect to have a level of downside protection such as an absorption of 10% or 20% for example. So with that, you didn't have these just a number of years ago, you didn't have these abilities to do this. And now, what you're starting to see is these types of products now are offering income portion features to them. So basically what the RILA products will do, the registered index-linked annuity income products use risk as a level of protection. And basically, what this does is helps address longevity risk, but also it helps address other types of risks such as inflation.

Michael Visconti: So, for example, the traditional variable annuity products, again where they fit makes sense, but traditionally what you see is income for life with not so much of the ability of the inflation, it's really just making sure that the income for life is there. With these types of registered indexed-link annuity income products, you're seeing an inflation ability because the way they're designed. So again, tackling these risks, I think the biggest thing today is around the innovation of the market space. From what you're seeing now and quite frankly as you continue to evaluate your plans, I think what you need to make sure is continuously pulsing and working on your plan to make sure that you have access to all the solutions that are out there today.

Jenna Dagenhart: Roberta, turning back to you, what considerations should plan sponsors keep in mind when evaluating retirement income solutions?

Roberta Rafaloff: So I would say that following the passage of the SECURE Act in December 2019, we are seeing a number of different retirement income approaches being introduced. But I would say that some of these solutions can potentially create confusion for both sponsors and participants. Two factors driving plan sponsors to consider complex solutions are, A, the perception that features are needed in order to overcome participant objections. And B, the perception that features are needed to achieve a good financial outcome. So, it may be tempting for plan sponsors to try to anticipate potential participant objections by offering products with many features, but I would say that adopting simplicity and more of the back-to-basics approach may be more successful. So we believe that simplicity should be the key guiding principle for a couple of reasons. First, participant behavior consistently has shown us that complexity such as too many choices, too many features, it often leads to inertia and participants avoid doing anything which is not the outcome we want.

Roberta Rafaloff: Simplicity also enables a focus on outcomes. So a simple approach whose goal is clear really may result in more income for more participants. Retirement plan solutions should offer flexibility but without complexity for both plan sponsors and participants. Plan sponsors should make sure that the income solution is easily adapted and really doesn't require any specific plan architecture. These solutions should compliment other plan elements, they should offer portability, but they don't have to be directly tied to managed accounts or target date funds, they can work with them or alongside of them. I'd say at the end of the day when a plan sponsor has to decide which solution would be most appropriate for their parents, they really are faced with selecting an approach that they feel is best going to fit the needs of the majority of its population.

Jenna Dagenhart: As Julie outlined earlier, there's been a lot of evolution in the retirement income space. So I want to focus in on one of those rules and see how that's changed over time. Nick, is the 4% role still a safe retirement income strategy?

Nick Arndt: Yes, I think it can be, but I think it is worth mentioning everyone's retirement income plan is personal and what works for one client may not fit the bill for another. It could be a good starting point for many retirees. I do think it is important to describe what the 4% rule actually means. Because I think there is a lot of maybe misconception out there. So the study was done by Bill Bengen in the 90s and he wanted to find a maximum sustainable withdrawal rate in a worse case scenario, and this rate is referenced as the safe max. The factors he used are sometimes not interpreted correctly. So first, Bill used a 30-year time horizon. So if your client has a shorter or longer time horizon than 30 years, there is no 4% rule for them. And second, he used a limited US market asset allocation of just the S&P 500 in intermediate government bonds and assumes that investors will earn this underlying return, which I think is unrealistic because we know humans are not good investors in general.

Nick Arndt: And additionally that equity waiting needs to stay within 35% to 80% throughout retirement. Taxes also were not taken into account. So what that 4% rule says is to take the value of your entire retirement nest egg and multiply it by 4% in your first retirement year, and then moving forward, you will simply adjust that first year withdrawal amount by the level of inflation or possibly deflation. This is a constant amount strategy that's set in retirement year one and is adjusted for inflation. It's not a constant percentage strategy and this may not be a realistic retirement income plan for many retirees, but it can provide a sense of what may be sustainable. In a worst case scenario, in some of the rolling 30 year periods that Bill analyzed a withdrawal rate of 5% or 6% or even 7% would've been sustainable. I've even heard Bill in a recent interview say 4.5% withdrawal rate may be the new safe max amount when using a more diversified portfolio.

Nick Arndt: One important aspect of financial planning that many retirees may want to incorporate into their planning is legacy planning, leaving a legacy. That 4% rule essentially says in the day your retirement nest egg reaches zero, you will die. And I've heard some predominant retirement income researchers refer to this as really plain chicken with your retirement. And the question is easy to answer if we know the retirement of the portfolio returns in retirement and the exact time horizon and how much the clients want to leave to their areas, but two of those factors are constantly changing, which will require continuous monitoring and possible periodic adjustments to that retirement income plan.

Jenna Dagenhart: Julie, what are your thoughts on the 4% withdrawal rule?

Julie Varga: Yeah. So Nick is right. It's definitely personalized and has certainly evolved over time. This is obviously something that's been looked at very heavily over the years and we've done a lot of research here at Morningstar on this as well. So these days, there are longer time horizons during retirement to make money last, and I know Nick mentioned the potential for the rate to be higher and maybe 4.5% or even 5%, 6%. But if you're looking at a 30-year time horizon, the research we've done actually shows a more conservative figure of about a 3.3% withdrawal rate to make the money last throughout their lifetime.

Julie Varga: And this is assuming that a retiree has a 50/50, so 50% equity, 50% fixed income portfolio and we've been asked, well, should a person have a more aggressive portfolio to increase their returns? And what we found is that with a more aggressive portfolio, it doesn't really help the situation because of the added level of risk involved, there've been a lot of down markets and retirees shouldn't necessarily be trying to time the market with their pool of retirement assets. Something else that should be considered is fluctuating the withdrawal rate over time. And so, this is obviously a more involved process on behalf of the retiree, but the idea here would be to withdraw less in times of down markets and when the market is doing pretty well to take out more and this would potentially help in making the money last throughout the individual's lifetime.

Jenna Dagenhart: Roberta, what would you say are some common misperceptions about annuities?

Roberta Rafaloff: There are a lot of misperceptions about annuities and retirement income solutions. So let's talk just about a couple of the more common ones. So first we hear, well, annuities are complex. And I would say to that an income annuity at the point of distribution really is easy to understand and it does provide an economically efficient way to create guaranteed income in retirement. Another thing people say is, "Oh, annuities don't offer any flexibility." So, again, what I would say here is annuities do not have to be in all or nothing proposition. I'm not sure when that became a thought that you had to annuitize all of your assets. Simply not true. We believe partial annuitization really can provide the best of both worlds, you have guaranteed income and liquidity. So what do I mean by that? Some of the participants' assets can be converted into a guaranteed income stream while the balance of their assets can remain on the plan where they have access to low-cost funds and they can withdraw those funds as they need them.

Roberta Rafaloff: In fact, our Paycheck or Pot of Gold Study found that nine and 10 pre-retirees said that they were interested in an option that would allow them to have both a monthly retirement paycheck that would last as long as they live and access to a lump sum of their retirement savings to spend however they want. Finally, I would say a common misperception is, oh my plan participants aren't interested in income annuities. And this misconception really comes down to how the choice is framed. So what we have found is that individuals are more than three times as likely to prefer a life annuity to a savings account when the choice is framed in consumption terms. In other words, what can they purchase with the income they receive rather than an investment terms. You talk about investment terms and annuities, they make them seem complex and difficult to understand.

Roberta Rafaloff: And I would say the word annuity itself may hold some negative connotation for some participants, but this does not mean they're not interested in the solutions, in fact, our research is found that an overwhelming majority are interested. According to the MetLife 20th Annual Employee Benefit trend Study, 70% of employees say that having guaranteed sources of retirement income would help them enjoy a more comfortable retirement. And then back to our 2022 Paycheck or Pot of Gold Study, we found that pre-retirees were far more likely to choose an annuity over a lump sum when presented with the choice among distribution options for their retirement savings.

Jenna Dagenhart: Typically, follow-up on that. Roberta, it sounds like there's growing interest among planned sponsors to probably offer these solutions.

Roberta Rafaloff: Yes. So some of the research that we've done in MetLife really has shown that employers are increasingly viewing their defined contribution plan as a retirement income program rather than simply a retirement savings program. In fact, our Employee Benefit Trends Study found that a majority of employers feel that helping ensure employees are financially prepared to retire really is an important benefits objective. Then of course, going back to SECURE, we have the SECURE Act and the SECURE Act's safe harbor provision removed the fiduciary barriers to offering guaranteed income solutions within qualified defined contribution plans. So we really are beginning to see more plan sponsors showing and actively interest in ways to incorporate income annuities into their defined contribution plan and plan sponsors really are starting to work with their consultants to better understand the solutions that are available in market today.

Jenna Dagenhart: Mike, turning back to you, how could annuities help people in retirement and protect against market risk? We talked a lot about how scary market risk can be earlier.

Michael Visconti: I think Roberta mentioned a few of this, and I just want to add a couple things that she said. As you take a look at what I call like reputational risk, there are misperceptions and there's misperceptions not only on annuities, but on many other different investment vehicles, not only in annuities. But I hear a lot in terms of what people think about a very small subset of what an annuity can do. So as you think about the market, to your point, Jenna, is that market fluctuations are one of the most important factors to portfolio longevity. There's think about it is the second only really the withdrawal rate. You don't see the market factors when you're saving because your dollar cost averaging, you're adding monies during good times and bad, and systematic investing with secular increases in asset price is really helped a lot of people build sizeable retirement.

Michael Visconti: However, when you go retiring, you stop contributing, you can start withdrawing from these retirement accounts, they become much more vulnerable to market volatility. But it also comes back to the behavioral aspects that I mentioned before, and I believe annuities can do both. And so, as you think about the bear markets and you think about the markets with where we are today, most retirees are going to manage many of these, multiple bear markets. The average retirees is going to phase three to five, and since 1945, there's been 26 market corrections of at least 10%, 11 that have succeeded 20%. As you think about where we are today, the average bear market is going to last about 16 months and the average loss is about 35%. So as you think about annuities that help safeguard against market risks, I really think it's about how you want to manage that risk. What is that risk?

Michael Visconti: And that comes down to the plan. How important and what is the importance of whatever risk you're trying to manage through? For example, if it's just pure market annuities, as I mentioned with RILAs, fixed annuities for a second, they allow you a level or a full level of asset protection, some allow more growth based upon market exposure, others just allowing straight interest rate factor.

Michael Visconti: Then as you take a look at withdrawals and the risk of outliving your money or the risk of going through these bear market cycles and having your money and your consistent repeatable paychecks come through the income from the annuity, that allows you the peace of mind to make sure that the portfolio doesn't need to work that much harder. We talked about the 4% role where that moves the annuity in terms of an income, if the income producing vehicle allows you that income without having to make sure that they're in good times or in bad that you're solely reliant on an unprotected asset. So really does a lot. And as I think about it, as you're looking at the risk and the specific risk, you're trying to manage that annuity. And think about the word annuities, put that off side, think about the risk you're trying to manage and how that could be transferred or at least minimized.

Jenna Dagenhart: Julie, what are your thoughts on in-plan versus out-of-plan annuities?

Julie Varga: Well, we are relatively agnostic as far as whether a plan uses in plan or out of plan annuity. Our methodologies set up in a way that provides a personalized recommendation to the individual and can allocate to both in-plan or out-of-plan annuities. But that said, in terms of breaking down the pros and cons of each, if you're looking at in-plan annuities, a person may be limited to the product that the plan sponsor chooses. So in essence, you're fitting all the participants into the same product. There may be added fiduciary responsibility to the sponsor as well and determining which annuity is used in the plan. And the plus side though with these in-plan annuities for the individual, they may like the fact that the sponsor has done the work of vetting the products and deciding what works for their employees the best, and they can receive education about the annuity from their sponsor.

Julie Varga: The sponsor could integrate the product into the QDIA if the sponsor wishes to do so. And arguably one of the most important pros of in-plan is that the participants benefit from institutional pricing that the sponsor is going to receive by having it in the plan. And then on the out-of-plan annuities, if we're looking at that, pricing can be an issue, again, in-plan has that institutional pricing. With the out-of-plan annuities, you're typically going to be getting retail pricing outside of the plan. On the positive side, with these out-of-plan annuities though, there is certainly more choice for the individual. They can decide what type of guaranteed product works best for their situation and have the ability to personalize it to themselves in their situation.

Jenna Dagenhart: Now, Nick, could you elaborate on the different approaches to turning retirement and savings assets into retirement income?

Nick Arndt: Yeah, and I'll bring it from a really an academic viewpoint. There's typically three different approaches to turning your assets into income, but practically, there may be a combination of approaches used depending on what the clients are comfortable with. The first is a systematic withdrawal approach. We've touched on the 4% rule. That's an example of this type of approach, but you can choose to determine a constant percentage or amount adjusted for inflation or not, which will be withdrawn each year over the client's life expectancy or time rise. And typically 30 years is used and that's to afford the client the lifestyle that they envision in retirement. And this is the most popular approach to use for retirement income plan, but it will vary from client-to-client and it can adjust throughout a specific client's retirement as well. Sophisticated retirement income planning software can assist in determining the appropriate amount or appropriate percentage that your client is comfortable with, but this should not be viewed as an autopilot approach and will not absolutely need to be monitored and adjusted accordingly.

Nick Arndt: The second is a bucket approach. This is sometimes referred to as a time segmentation. It identifies different phases in retirement to build different portfolio investment strategies varying by the different time horizons of each of those three buckets. And typically, it invests differently for each of the bucket using fixed income assets with greater security for the earlier retirement expenses and then higher volatility investments with greater growth potential used for the later retirement expenses. So an example could be using three different 10-year time segments to cover a 30-year retirement time horizon. And that first bucket could use laddered bonds, TIPS, CDs, bond funds, or cash. That second bucket could be relatively conservative and use some fixed income, some equities, commodities or real estate. And then that third bucket holds that most risky assets such as small cap stocks, emerging markets, high yield bonds, those types of investments. And each bucket rebalancing needs to be leveraged and typically clients can more easily understand in envision this type of approach.

Nick Arndt: And then the third of those major approaches is essential versus discretionary or sometimes referred to as a flooring approach. Clients need to identify what expenses or needs versus wants or wishes, and once that floor is set by adding all the essential expenses, the remainder of that portfolio is going to be used to meet those discretionary type expenses. The essential needs are usually covered by using annuity protection or a bond ladder strategy and some retirement income researchers strongly encourage using an annuity protection to fill the essential needs' gap beyond what Social Security or pensions if available might provide. And this can be viewed as ensuring the coverage of your essential needs, which creates a peace of mind for most clients. And we ensure our homes, we ensure our vehicles, we ensure our lives, but we seem to overlook the importance of ensuring a portion of our retirement income plan.

Jenna Dagenhart: What about timing, Roberta, is there a benefit to securing guaranteed income at the point of retirement instead of during the accumulation phase?

Roberta Rafaloff: Yeah, we believe so. Accumulation products can be expensive, they can be complex, and they really can be difficult to explain in a defined contribution plan environment. So we have MetLife believe that an income annuity really is the best way for plan sponsors to enable their defined contribution plan participants to secure that basic layer of retirement income. Offering fixed income annuities as a plan distribution option really does allow participants who are retiring, again, to use all or a portion, remember partial annuitization, they can use a portion of their plan assets to purchase a guaranteed fixed-income stream that will last for at least as long as they do.

Jenna Dagenhart: Julie, now, what is Morningstar's involvement and guaranteed products since they're not a creator of such products?

Julie Varga: That's a great question. So even though we don't create guaranteed products, we're heavily involved in them on the research side of Morningstar and within our advisory services. So for example, our managed accounts program is really sophisticated in being able to provide a personalized recommendation around guaranteed products to each individual based on their unique circumstances. So what we do is look at a variety of factors like whether the person has a pension, if they have outside assets or possible assets, how much Social Security they're going to receive, and what their income need is at retirement.

Julie Varga: So we take into account all of this information and determine if the person should allocate to an annuity and how much. So we both look at in-plan and out-of-plan annuities. So depending upon what the plan sponsor has available to them, we'll take a look at them. When it's an in-plan annuity, we're going to do a deep dive into the product the plan has in their lineup in order to create a recommendation based on specific features. And then without a plan annuities, we can partner with third-party annuity marketplaces. So today, we work with Hueler Income Solutions to be able to tell a participant if they should consider purchasing an annuity, and again, how much they should purchase. So all of this, again, is very personalized to each participant.

Jenna Dagenhart: Throughout this discussion, we've outlined several risks. Mike, moving forward, which one in your mind is the one that a financial professional needs to be mindful of and which one would you rank as the most important? I know that's tough because there's a lot of them out there.

Michael Visconti: Yeah, there are, Jenna. I mean, if you think about it, we've only named a handful of just on this call alone, and I'll tell you is that I think the number one risk right now is really that sequence of returns risk. I mean, as you think about it, one, you can't control it, and many people just hope to type it. And so, put it plainly, what the markets do when you're retired? How they perform? In the first few years of your retirement, it's really paramount to your success. Prudential coined this term years ago called the retirement red zone, and that was defined as the five years before you retire and the five years after. And really that was determinable or discussed around, that's going to be the red zone in terms of how is your portfolio be, how is your market portfolio going to keep up with you and are you able to have a comfortable and a fruitful retirement?

Michael Visconti: So fast forward to today, if you look at the consumer confidence index, consumers aren't feeling so good about with where we are right now in the economy. In fact, it's probably lower than it has been last 50 years, that's 50 years. But if you look at the market returns, when the confidence is at its worst, the markets start to perform actually quite well. So a person who retired at the beginning of this year versus today, that's two different worlds from where the markets have been. So a typical 60, 40 portfolio, it was mentioned for about the 4% rule, you could put 4% for your income and have pretty good chance, mathematically speaking, making 30 years longer. If you start pulling out 4% and then the market is down, so you're compounding that, let's say the market is down 15% and then now on the equity side, and now you've got the bond market down, call it 5% to 7%, it takes a significant about making up to do while staying with your risk tolerance.

Michael Visconti: Now, if you look at let's say March 2009, market in all time low, around that point right after the bottom, a person actually who's retired at that point, were far off better than the person who retired just a few months earlier. And think about it, in March 2009, most people thought that market was going to get far worse than it actually did. So by thinking about with where the confidence was at that time, it was at an all time low, fear was on an all time high. However, mathematically speaking, if you started to withdraw your portfolio at that point, you'd be in pretty good shape to make it through. So again, to answer your question, Jenna, is that with comes down, in my opinion, to that sequence of returns specifically right now.

Jenna Dagenhart: Bringing everything full circle here, Nick, how does a financial professional develop a successful retirement income plan, especially in today's environment?

Nick Arndt: Yeah, great question. Transitioning from our human capital while we're working to our financial capital in retirement can really be difficult for a lot of clients to really envision. But retirement income planning has a lot of overlap with the general financial planning process, which many of you may have already laid that groundwork with some clients. But number one, we need to establish that client relationship and evaluate their current situation. So we need to evaluate their cash flows, their quantitative data. We also need to understand their qualitative, what is their mindset, what is their retirement vision? And also, what are the behavioral aspects that we need to keep in mind for each individual client? Next, identify those retirement goals and objectives and have the client prioritize them, discuss those risks that we went through earlier. Next, estimate that retirement income need. Categorize those expenses between essential and discretionary.

Nick Arndt: This is an essential exercise, it's a budgeting exercise and not a lot of clients may like to do it, but it's crucial to the plan. And then identify sources of income in those assets that are available to be able to generate that retirement income. Maybe also try to help your clients identify less obvious assets that can be used to support income, such as cash value of a life insurance policy, or possibly leveraging home equity. Maybe clients have some collectibles or maybe they have multiple homes and selling a primary home in retirement and moving to their secondary home is a goal. Next, making a preliminary calculation of the client's preparedness of retirement. So the output is going to depend on what software is modeling and the assumptions that are used. So know what the software is illustrating, are you using Monte Carlo type of outputs versus maybe a funded ratio type of output, and how to explain that to a client.

Nick Arndt: And then develop strategies for addressing a retirement income shortfall, as I mentioned earlier, trying to save more or better that portfolio performance, or unfortunately, not palatable to many clients working longer or having to work part-time in retirement, or just reducing some of those discretionary expenses or eliminating them all together. Really important to consider legal and tax issues that can really derail the retirement income plan. So keep in mind things like R&Ds or clients becoming incapacitated, those legal type of considerations. Also, retirement risks in developing alternative solutions. So we mentioned a few of them, longevity risk, market risk. What if a spouse passes away at an earlier age than expected? Health risk. What type of medical insurance does one need while in retirement? Is long-term care insurance a must have for clients in retirement? And then move into determining an appropriate strategy for converting those assets into income.

Nick Arndt: I hit on some of these, but just to reiterate, 401(k) assets, possibly converting into some sort of income stream, maybe using an annuity, maximizing those Social Security strategies. I think that is really important. Oftentimes, either misunderstood or just ignored by many clients. They take their Social Security as early as possible because they have the option to. Tax strategies. Tax diversification is huge. We can try to leverage some of those. Tax exempt type of accounts like Roth IRAs is really important in retirement.

Nick Arndt: Reverse mortgage to tap into some home equity. Just reducing expenses may solve some of those cash flow needs. One example is that in that income floor approach is to cover those essential needs, but those types of solutions sometimes conflict with a legacy planning strategy as well. So keep that in mind. Integrate all those considerations, present some alternatives, and just agree on a plan. It is worth noting that implementation of a retirement income plan as a whole may involve a team of professionals, a state plan and attorney tax professionals, maybe an insurance of professional. Now, having someone that you can refer your clients to for health insurance guidance and retirement is important often an overlooked member of a financial planning team. So keep in mind, as I mentioned, health costs and how retirees will cover those health costs are the number one concerns for retirees today.

Jenna Dagenhart: Roberta, what role does education play in the successful implementation and adoption of retirement income solutions among participants?

Roberta Rafaloff: Yeah. So I would say that education is paramount. It's critical. It's becoming really clear that plan participants really need help to understand how their savings are going to translate to income during retirement. I would say, offering really strong, robust participant awareness and education on a broad range of retirement income-related topics is critical to the success of any program. I'd say, the ultimate goal of an educational program should be to provide participants with the knowledge and the tools that they're going to need to understand exactly how much money they're going to need a month in retirement, and to help them predict their retirement income needs and understand how an income annuity may might fit into their plans for achieving that financial security and retirement.

Roberta Rafaloff: Retirement education really should include topics and tools that cover a lot of things that we've actually talked about here. So, how to create retirement income, the pros and cons of taking a lump sum, the effects of beginning Social Security benefits at different ages, issues related to longer lifespans, longevity risk. And they also are going to need calculators that will really help them determine how much income they will need in retirement along with how much savings are going to be needed to generate that income. So there's really a lot to understand. So education is critical, and I would say we really need to educate participants early and often. Developing a foundational retirement income education program is an action that plan sponsors can take now, well, before decisions need to be made by their participants about converting their accumulated account balances to a guaranteed stream of income in retirement.

Jenna Dagenhart: Finally, Julie, what else should retirees be thinking about outside of guaranteed products?

Julie Varga: There's a number of things that retirees should be looking into. They should consider how to rebalance the rest of their portfolio depending upon whether they have an annuity or not. If they do have an annuity, we recommend that the rest of the portfolio be invested more aggressively since they've got a guaranteed component and have the ability to take on more risk with the rest of their assets. They should also be looking at how they're spending over time in which accounts they should be pulling from. So they may have Social Security, they may have pension, 401(k), taxable assets, all of these things should be withdrawn from in a way that helps them to be able to sustain a spending rate over time.

Julie Varga: Something else that they should consider is taking Social Security later, which is not necessarily a popular sentiment to have to convince retirees of, but if they delay taking Social Security until age 70, they can claim their largest possible benefit and they can bridge that gap from retirement until age 70 by pulling from other accounts or with a guaranteed product. And I think that that's why access to a financial planner or to a managed account service that covers all of these items for retirees is pretty crucial. That way, the retiree can get recommendations that are very specific to their unique circumstances.

Jenna Dagenhart: Well, everyone really appreciate your time today. I wish we had time for more, but better leave it there. And thank you to everyone watching this Retirement Income Masterclass. Once again, I was joined by Michael Visconti, vice president in Divisional Sales Manager Retirement Strategies at Prudential, Roberta Rafaloff, vice president, Institutional Income Annuities at MetLife, Julie Varga, vice president, Investment and Product Specialist at Morningstar Investment Management. And Nick Arndt, director, Advanced Markets at Transamerica. And I'm your host, Jenna Dagenhart with Asset TV.


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