Safety-First Retirement Planning: An Integrated Approach for a Worry-Free Retirement

by Wade Pfau

Two fundamentally different philosophies for retirement income planning, which I call probability-based and safety-first, diverge on the critical issue of where a retirement plan is best served: in the risk/reward trade-offs of a diversified and aggressive investment portfolio that relies primarily on the stock market, or in the contractual protections of insurance products that integrate the power of risk pooling and actuarial science alongside investments. The probability-based approach is generally better understood by the public. It advocates using an aggressive investment portfolio with a large allocation to stocks to meet retirement goals. My earlier book How Much Can I Spend in Retirement? A Guide to Investment-Based Retirement Strategies provides an extensive investigation of probability-based approaches. But this investments-only attitude is not the optimal way to build a retirement income plan. There are pitfalls in retirement that we are less familiar with during the accumulation years. The nature of risk changes. Longevity risk is the possibility of living longer than planned, which could mean not having resources to maintain the retiree’s standard of living. And once retirement distributions begin, market downturns in the early years can disproportionately harm retirement sustainability. This is sequence-of-returns risk, and it acts to amplify the impacts of market volatility in retirement. Traditional wealth management is not equipped to handle these new risks in a fulfilling way. More assets are required to cover spending goals over a possibly costly retirement triggered by a long life and poor market returns. And yet, there is no assurance that assets will be sufficient. For retirees who are worried about outliving their wealth, probability-based strategies can become excessively conservative and stressful.This book focuses on the other option: safety-first retirement planning. Safety-first advocates support a more bifurcated approach to building retirement income plans that integrates insurance with investments, providing lifetime income protections to cover spending. With risk pooling through insurance, retirees effectively pay an insurance premium that will provide a benefit to support spending in otherwise costly retirements that could deplete an unprotected investment portfolio. Insurance companies can pool sequence and longevity risks across a large base of retirees, much like a traditional defined-benefit company pension plan or Social Security, allowing for retirement spending that is more closely aligned with averages. When bonds are replaced with insurance-based risk pooling assets, retirees can improve the odds of meeting their spending goals while also supporting more legacy at the end of life, especially in the event of a longer-than-average retirement. We walk through this thought process and logic in steps, investigating three basic ways to fund a retirement spending goal: with bonds, with a diversified investment portfolio, and with risk pooling through annuities and life insurance. We consider the potential role for different types of annuities including simple income annuities, variable annuities, and fixed index annuities. I explain how different annuities work and how readers can evaluate them. We also examine the potential for whole life insurance to contribute to a retirement income plan. When we properly consider the range of risks introduced after retirement, I conclude that the integrated strategies preferred by safety-first advocates support more efficient retirement outcomes. Safety-first retirement planning helps to meet financial goals with less worry. This book explains how to evaluate different insurance options and implement these solutions into an integrated retirement plan.

Genres: Finance, Nonfiction, Personal Finance, Economics, Business

630 pages, Kindle Edition

Published October 1, 2019

About the author

WADE D. PFAU
PhD, CFA®

Professor of Retirement Income

RICP® Program Director

Co-Director of the New York Life Center for Retirement Income

Areas of Expertise:
Annuities, Financial Planning, Investments, Life Insurance Planning, Life Insurance Practices, Portfolio Management, Retirement Planning

BA, University of Iowa
BS, University of Iowa
MA, Princeton University
PhD, Princeton University

Reviews

[Gary L Rau · Rating 5 out of 5]

You don't have to play the odds if you want managed results

Wade Pfau is "the man" when it comes to retirement planning. He covers arcane subjects in a clear, understandable fashion while including just enough math to satisfy the nerdiest layman.

This time he explains how using insurance products along with investments can provide an optimal outcome in terms of guaranteed income during retirement,if you value safety of your retirement income stream.

Highly recommended for anyone thinking about preparing for retirement.

[Rayfes Mondal · Rating 5 out of 5]

There are a ton of books that discuss the accumulation phase of wealth building for retirement but not as many about how to live off of your nest egg. Many people tout the 4% rule but that subjects you to the volatility of stock market and could cause stress (at least to me).

This book discusses how annuities could fit into the picture. Make sure you stay away from high cost or complex ones. But simple annuities that pay out immediately can give you peace of mind that a portion of retirement expenses will be covered for the rest of your life. Even one not indexed for inflation can be beneficial. And by guaranteeing income you can feel more comfortable spending in retirement.

There was also discussion about life insurance annuities but I skipped that since I don't need life insurance (no one depends on my income). This an academic book with a lot of data but there are periodic summaries and interpretations of the data.

[M31 · Rating 5 out of 5]

Siendo sincero y dado que, por el momento, mis capacidades cognitivas funcionan bastante bien, he de admitir que he viajado por las annuities a unas 700ppm con una comprensión del 60% aprox. Sin embargo como el resto de la serie de Wade Pfau es un libro muy bien estructurado y detallado para productos en USA.

Si no te corre prisa la jubilación y resides en España, tal vez te valga más esperar a una versión española de Alejandro Álvarez (quenoteloinviertan).

[Ewilliams3 · Rating 5 out of 5]

Extremely detailed look at the use of annuities in retirement planning. A strong case for at least a partial annuitization is made. Depending on your age, it remains to be seen whether social security will remain solvent enough to fulfill that role for most households or if the products outlined in the book will need to be integrated into your financial plan.

[JT Sly · Rating 4 out of 5]

Very detailed. If you are interested in understanding life insurance and annuities, this is the book.

[Steve · Rating 4 out of 5]

This book covers in detail various annuity and life insurance products that can be used to reduce risks going into retirement, and how these products can reduce longevity risk, and/or tailor a retirement plan to ensure a financial legacy/inheritance. Practically these products may allow for a greater safe withdrawal rate than a traditional stock/bond only portfolio.

I found chapters 5, 6 and 7 a little too in-depth when covering these topics in detail; however, these chapters would be good references when trying to understand the features and benefits of various annuity and life insurance products. I would recommend casual readers skim these chapters.

In addition to this book being a good reference, each chapter ends with recommended further reading, which is always nice to have.

Chapter 8 is fantastic, and shows the reader application of annuities into a retirement plan. Due to the inherent mortality credits built into annuities, the author suggests that a mixture between equity and annuities is more optimal than the traditional mixture of stocks and bonds, and also better addresses both longevity risk, as well as lower stress in retirement, and the emotional low spending which may take place with conservative retirees to attempt to preserve there portfolio, especially with an unknown life expectancy and concern of out-living their money. I think this mixture makes a lot of sense, but analysis of individual products, as well as local tax and social security benefits all need to be considered when developing a retirement plan.

Financial planners should take time to investigate the world of life insurance and annuities to best serve their clients, and not automatically dismiss them as being overpriced. Wade Pfau makes some good points regarding that while annuities need to be compared against bonds, and in a low interest rate environment, the mortality credit benefit of annuities actually make them more attractive.

Overall this book was a great dive into less-common insurance-based tools, how these tools could be incorporated into a retirement plan, and was very educational.

[Jack · Rating 5 out of 5]

Wade Pfau has a PhD and CFA and is the director of the Retirement Income Certified Professional program at the American College. I have read many books on investing but this one actually presented new material that was helpful. On life insurance, we have all heard the mantra about buying term and investing the difference. Now I understand how life insurance could actually play a role in funding retirement. For me, that ship has sailed but I am very interested in QLACs. Dr. Pfau isn't pushing annuities but does illustrate how partial annuitization could be beneficial in certain circumstances. People are trying to figure out how to make a portfolio last a lifetime and things like the "4%" rule are clearly inadequate. Many spend far less than they could for fear of depleting their assets. The explanations of annuities are detailed but thankfully there are many case studies and illustrations which helped in my understanding.

[Mike Knirnschild · Rating 3 out of 5]

Very, very technical. Not for the lay person that’s for sure.

[Karen Hensley · Rating 5 out of 5]

I have read many books on retirement finances. This one has the technical depth that I crave.