Longevity risk is the risk that you live too long. Not a problem, most people would think. But there’s a financial risk – if you live longer than the money you have saved during your lifetime will last. Most actuaries fervently believe that this a risk that you should insure against. But very few people will voluntarily buy the product that will insure you against it – a lifetime annuity. A simple product – you hand over a lump sum, and in return, you receive a defined income for as long as you live.
In Australia, the market for true lifetime annuities is unbelieveably tiny. Say 1% of all post-retirement products (I’ll check that stat if I get the time – it’s so small, that most people don’t bother recording it).
The market is bigger in the US and UK, but mostly due to compulsion in the tax and retirement savings system.
So why won’t people buy this product? Many industry professionals say it’s because you can only get a fixed interest return – the way the rules work, it is practically impossible to create a product that will give you both longevity insurance and some exposure to the booming stockmarket.
But I believe that it is a fundamental issue with the product. It’s a bet with a life insurance company. If you live a long time, you win. If you die quickly, you lose. And it feels to most people that you’ve already lost that bet once by dying quickly. You really don’t want to lose twice – not only have you died young, but you’ve handed over your life savings to a nasty insurance company.
So will this product ever be more than a tiny niche product, sold to actuaries, and people who expect to live to 100?
Insurance – including annuities – are like bets. The rates are calculated so that, on average, the house wins. Catastrophic events like bereavement, disability and dispossession are certainly worth insuring against, as neglecting to do so could ruin your life.
With longevity it’s not really the same. Take out an annuity, and you’re not just betting on a long life, but on a life significantly longer than actuaries would expect. Most people lose that bet, and that’s the only way the industry survives. That’s true of life and home insurance as well, but there are alternatives to annuities.
For people who are intimidated by dealing with their finances it’s still probably a good idea, but there are other, better investments to pay for your old age and simultaneously provide for your posterity.
Also there’s superstition. If I bought a product like that, I’d knock on wood throw salt over my shoulder etc etc!
There’s another good reason to avoid this product: if you buy it, a large corporation stands to make a lot of money if you die. Sure, bumping you off is a risky thing for them to do, and the excess mortality might be noticed… but the idea probably activates a whole bunch of neurons you don’t even know about.
Never buy it from the same company that runs your nursing home or your health insurance.