We Sell Ourselves Short

The good news is you're going to live longer than you think. That's the end of the good news.

Friend,

The financial arc of our lives is broadly split into two phases:

1. the Saving Stage (also called “accumulation” by technical geeks with no trace of humanity);

2. the Spending Stage (also called “decumulation” by the same).

In essence, the Saving Stage is that three-to-four decade span when you are working and earning an income. In this stage, you will (God help you) be following Mr Buffett’s maxim and furiously salting away as much as you can afford into your company pension scheme(s), Investment ISAs and so forth.

“Don’t save what is left after spending; spend what is left after saving.”

Warren Buffett

In the Saving Stage one walks that precarious tightrope of enjoying the here and now whilst also looking to build up meaningful, substantial pots of money for later on. These pots will become a source of replacement income for that excruciatingly frightening time when you walk away from work and the regular monthly pay cheque.

And it is frightening, and no one’s immune to this fear. And it’s OK to feel it. The fear comes from the loss of certainty. One minute you know that each month, £xxxx will hit you bank account and will cover the cost of your Lifestyle. The next, it’s gone: when you transition from the Saving Stage to the Spending Stage you’re on your own, State pension notwithstanding.

You’re Going To Hang Around

If people understood for just how long they would be financially on their own in the Spending Stage, the fear element would shoot off the charts. There is a decent body of research that shows we sell ourselves short when it comes to predicting how long we think we will live¹:

According to new research from Canada Life, people aged 50 and over on average think they will live until around age 80, whether male or female. The good news is, according to the ONS life expectancy calculator, a male aged 50, will, on average live to age 84, while a women aged 50 will live on average to age 87.

This gap in expectation and reality creates additional pressures on retirement planning…..

Now, ostensibly, this is good news. The crazy thing called life is, on balance, enjoyable, and few of us want to think about it ending, although when I’m forced to listen to Piers Morgan I get ideas. So if life and all its accoutrements goes on for longer than we planned, all the better, no?

No, not in the financial sense. At the risk of bleating out the bleeding obvious, if we’re living longer than we planned, life is going to cost more and we need to be salting more away in our pots in the Saving Stage, else the Spending Stage will end in a state of disrepair. A dignified, independent retirement no more.

12,775 Days, Give or Take

There’s an awful lot going on in that image above. I’m no statistician or maths genius (it took me three goes to get my Maths O-Level between 1985-86. Reassuring, eh?) but I glean from the above that a newly retired non-smoking couple, aged 60 and 58, in good health, has a 50% chance that one of them will live for 35 years in the Spending Stage.

This is based on American data - the Yanks are always streets ahead of us when it comes to stuff like this - but it is probably a fair estimation of longevity traits in our country too.

And before readers take umbrage and resort to the trope of Americans being grossly overweight and so surely we will live longer in the UK: have you walked down a high street here recently? We ain’t getting smaller: if I come back in another life I will go long Dunkin’ Donuts, fried chicken outlets and tattoo parlors. But I digress.

So What?

If our Spending Stage is going on for longer than we think or plan for, then there’s a good chance our pots will run out of life before we do. And that’s distinctly sub-optimal. The danger of this happening is exacerbated by a combination of two factors:

1. our Lifestyle costs go on for longer than thought and so are pots are depleted more;

2. inflation has extra years to ratchet up the cost of our Lifestyle.

By way of example Melania (58) and Donald (60), our retired couple above, are just setting out on the Spending Stage of their life. They’ve worked out their Lifestyle comes in at around £60,000 a year net.

Not that they’ve given it much thought but neither of them think or believe that one of them could be around in 35 years' time. Nor do either of them spend much time pondering historical rates of UK inflation. If they had, they would know that, since WW2, UK Retail Prices Index (RPI) inflation has clipped along at 5.3%² a year.

And over the last 35 years (those long 12,775 days) UK inflation has been 3.4% a year. If that were to repeat itself, a Lifestyle cost of £60,000 today would be £193,000 in three and a half decades.

Melania or Donald would be having to spend over three times their first-year Spending Stage amount just to stand still 35 years later.

People entering the Spending Stage are worried about many things. A solid financial plan, communicated to you via an empathetic financial planner, will help assuage those fears as much as can be. But your planner has a duty to not just reassure you that the monthly pay cheque can be replaced by taking an “income” from your various pots. She should also be opening your eyes to just how long you are likely to live in the Spending Stage, and by just how much your Lifestyle cost will balloon over that period.

Longevity and inflation: a heady brew as you enter a 12,775 day Spending Stage. Make sure you’ve prepped for the long haul. You’ve earned it - literally.

1. https://www.canadalife.co.uk/news/new-retirement-gap-looms-as-people-underestimate-life-expectancy/#:~:text=According%20to%20new%20research1%20from%20Canada%20Life%2C,around%20age%2080%2C%20whether%20male%20or%20female.&text=%E2%80%9CMen%20and%20women%20thought%20they%20would%20live,years%20and%20women%20a%20further%20seven%20years.

2. All inflation figures from Dimensional Fund Advisors (sic)