1. Essential Personal Finance
Chapter 10
Saving for later life
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

2. Contents Introduction Life expectancy Support ratio
Retirement provision
Incentives and nudges
Charges
How much to save?
Annuities vs drawdown
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

3. Introduction
L A T E R
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

4. Life expectancy
Figure 10.1 Increase in life expectancy at birth between 1970 and 2013
Source: Data from OECD (2015a).
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

5. Support ratio
Support ratio This is often defined as the number of people of working age divided by the number of people over retirement age, sometimes called the ‘old-age support ratio’
Trend in support ratios?
Reasons for this trend?
Criticisms of support ratio?
Ways to improve the support ratio?
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

6. Retirement provision
Figure 10.3 Five pillars of support for retirement
Source: Author’s representation based on World Bank (2008).
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

7. Pay-as-you-go vs funded
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

8. Defined benefit vs defined contribution
Types of scheme ?
Planning ahead
Risks borne by provider
Risks borne by individual
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

9. Defined benefit vs defined contribution
Types of scheme
Some employer schemes
Most state schemes
Many employer schemes
All personal plans
Planning ahead
Promised pension
Uncertain pension
Risks borne by provider
Investment risk
Inflation risk
Longevity risk
None
Risks borne by individual
Promise might be broken
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

10. Different models Scandinavian Main features? Differences? Anglo-Saxon
Examples?
Anglo-Saxon
Continental
Source: Blank map of Europe by Fobos92 - Own work, CC BY-SA 3.0,
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

11. Incentives and nudges Behavioural traits: Myopia
Hyperbolic discounting
Status quo bias
Herd behaviour
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

12. Incentives and nudges Behavioural traits: Solutions? Myopia
Hyperbolic discounting
Status quo bias
Herd behaviour
Solutions?
Tax incentives
Automatic enrolment
Compulsion (e.g. state schemes, private schemes in some countries)
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

13. Charges: an example
If a person saves £100 a month in today’s money for 30 years and charges are 0.75%, how much of the pension pot is lost in charges?
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

14. Charges
If a person saves £100 a month in today’s money for 30 years and charges are 0.75%, £7,600 lost in charges (11% of the pot)
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

15. Charges: another example
If a person saves £100 a month in today’s money for 40 years and charges are 1.5%, how much of the pension pot is lost in charges?
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

16. Charges
If a person saves £100 a month in today’s money for 40 years and charges are 1.5%, £30,600 is lost in charges (27% of the pot)
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

17. Charges: key points Annual charges levied even if pot does not grow
Small annual charge can take high proportion of total pot
Effect is larger the longer the saving term and the higher the percentage charge (because of compounding)
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

18. How much to save?
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

19. Annuities vs drawdown Which age will apply to you?
Figure 10.2 UK men and women aged 65 in 2015 expected still to be alive at
different ages
Source: Author’s calculations using data from ONS (2015).
Which age will apply to you?
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

20. Drawdown options Figure 10.4 Drawdown options
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

21. Annuities vs drawdown Annuities Pros and cons? Drawdown
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

22. Annuities vs drawdown Annuities
- Remove investment risk and longevity risk
- Can remove or reduce inflation risk
- But income may be lower
- Secure income but inflexible
Drawdown
- Investment risk and ongoing charges
- Might beat inflation
- Longevity risk
- Flexible, but income may have to be cut or run out
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne

23. Conclusions
Retirement planning – behavioural biases mean tend to put off until later
Life expectancy – rising
Support ratios – falling
Retirement provision
Five pillars, including state and private schemes
Pay-as-you-go vs funded
Defined contribution vs defined benefit
Models: Anglo-Saxon, Continental, Scandinavian
Incentives and nudges
Tax incentives, automatic enrolment, compulsion
Charges – small annual has big impact on pot (compounding)
How much to save – start early, retire later
Annuities vs drawdown
Longevity risk, investment risk, inflation risk
Flexibility
Higher risks give chance of higher returns
© 2017 Lien Luu, Jonquil Lowe, Jason Butler and Tony Byrne