David Blanchett: Researching Retirement (EP.137)

Episode Summary

Executive Summary: David Blanchett, head of retirement research at Morningstar, discusses retirement planning complexities. Key insights: rising income can hurt retirement if spending inflates; retirees spend less than inflation-adjusted; annuities provide significant alpha equivalent through mortality pooling; human capital and real estate should influence portfolio decisions; advisors add value through holistic planning, not market timing. The conversation emphasizes behavioral aspects and the need for personalized, flexible strategies.

Main Topics: Income and Retirement Readiness (Priority: 5/5): Rising income pre-retirement can both help and hurt: saving increases but lifestyle inflation raises retirement goals. Heuristics like saving half of raises are suggested, with higher savings closer to retirement. Retirement Spending Patterns (Priority: 4/5): Retirees typically spend less than inflation-adjusted withdrawals, with a 'retirement smile' where healthcare costs rise later. The 70% income replacement rule is a starting point, but personalization is key. Annuities and Guaranteed Income (Priority: 5/5): Annuities offer mortality pooling benefits, with an alpha equivalent of over 1% per year. Deferred income annuities are efficient but behaviorally hard to sell; variable annuities with GLWB are more palatable. Low interest rates increase annuity value relative to bonds. Human Capital and Portfolio Construction (Priority: 4/5): Human capital (future earnings) should affect asset allocation: safe jobs allow more equities, risky jobs require conservative portfolios. Employer stock concentration is dangerous. Real estate is a volatile asset with consumption and investment aspects. Advisor Value and Gamma (Priority: 4/5): Advisors add value through behavioral coaching, financial planning, and avoiding bad decisions, not just alpha. The concept of 'gamma' quantifies this, but actual impact varies. Robo-advisors complement human advisors for underserved clients. Real Estate as an Asset (Priority: 3/5): Homes are both consumption and investment, but highly risky due to lack of diversification. Geographic location affects portfolio decisions, but the effect is weaker than human capital. Sources of Financial Advice (Priority: 3/5): Survey data shows financial planners and internet advice lead to better financial decisions, but internet advice quality has declined over time. Friends are the worst source.

Key Arguments: Rising income pre-retirement can hurt retirement readiness if lifestyle inflation outpaces savings; saving half of raises is a good heuristic. Retirees spend less than inflation-adjusted withdrawals on average, but healthcare costs create tail risk in later years. Annuities provide mortality pooling that bonds cannot replicate, offering an alpha equivalent of over 1% per year, especially valuable in low-yield environments. Human capital should influence portfolio allocation: safe jobs allow more equities, risky jobs require more conservative portfolios. Employer stock concentration is a major risk. Advisors add value through holistic planning and behavioral coaching, not market timing. The concept of 'gamma' captures this, but actual value depends on client sophistication. Real estate is a risky asset due to lack of diversification; its expected return is often overestimated and risk underestimated.

Data Points: Income replacement rule of thumb: 70% - Starting point for retirement income needs, but should be personalized. Alpha equivalent from annuities: Over 1% per year - Lifetime alpha from including annuities in a retirement plan, based on utility analysis. Retirees retiring earlier than expected: About 50% - Half of retirees retire earlier than planned, which can be detrimental to financial outcomes. Human capital stock-like approximation: 30% - General rule that human capital behaves like 30% stocks, but varies by individual. Advisor AUM fee vs annuity commission: 1% AUM vs 3% one-time commission - Comparison of ongoing advisory fees vs one-time annuity commission for immediate annuities.

Pivotal Quotes: "If you want to improve your client's retirement outcomes, the easiest way to do it is not through picking stocks or building exotic portfolios, it's through the financial planning process of including annuities as part of that retirement plan." — David Blanchett: Discussing the alpha equivalent benefit of annuities over portfolio management. "The goal of our profession is to help people accomplish their goals, you have to take into account how they're going to react to recommendations and whatever else when you're actually coming up with those recommendations." — David Blanchett: Emphasizing the behavioral aspect of financial planning and the need for practical frameworks. "I want to be a good dad. I want to be a good father. The work stuff's great and all, but I got a one-year-old, and as much accolade as you can get from writing a cool paper and having eight people read it, you know, seeing him smile means the biggest thing in the world." — David Blanchett: Answering how he defines success in his own life, prioritizing family over professional achievements.

Implications: Listeners should consider annuities for guaranteed income, beware of lifestyle inflation from raises, and seek holistic financial planning. Advisors should focus on behavioral coaching and incorporate human capital into portfolio design. The industry should move beyond success rates to more nuanced metrics like utility and magnitude of failure.