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Listen as Jack discusses solving for income, as opposed to assets, for the Baby Boomer generation.

Traditional retirement planning has relied on the accumulation of assets to ensure that retirees have enough money throughout retirement. Jack Marrion will illustrate his knowledge of behavioral retirement planning – how consumers truly make decisions – and show how guaranteed products can help your clients meet their retirement income goals.

Matt: We have Jack Marrion today. My name is Matt Sawyer. Today’s program is the second in a series featuring our good friend, Jack Marrion. He’s going to discuss Solving for Income using behavioral retirement planning as a backdrop.
Just to kind of set everything up, if we put all the demographic data aside, which we’re all very familiar with, I think we’d all agree that retirement planning has changed immensely, certainly over the course of my career as I look back, but also really since 2000.

You know as we build classical retirement planning portfolios for our clients, we’ve built a well-diversified portfolio with a number of different asset classes as we begin a systematic withdrawal program, which would typically last into retirement and in many cases, there would be money left over that we could give to our heirs.

You know, if we look at it, the 100-year floods of 2000 and 2008, really demonstrated what a dramatic and negative effect that the sequence of redemptions can have on even the most well diversified portfolios. In the year 2008, when you had a great diversified portfolio and you saw that the correlations that went to one and everything went down together, we realized that selling into a declining market can be very hazardous for retirement goals. And this is where Jack has become really so popular. He’s always been popular, but even more so in the last couple of years, and why his research is so valuable.

Jack combines solid research with the insight into helping understand why clients, baby-boomers, and retirees make the decisions that they make and how we can position ideas so that they understand them better and make the right decisions in their retirements and inside their portfolios.

So to talk a little bit about Jack, who really needs no introduction, but we’ll do it anyway. He’s the President of a research consultancy that publishes the Index Compendium newsletter, the consumer education materials of Safe Money Places, and the Advantage Compendium Research Studies. He’s frequently referenced by regulators and in FCC rule filings related to annuities. As well, he appears as an expert witness often, as well.

His first indexed annuity book, Indexed Annuities: Power and Protection, is regarded as the ultimate text on indexed annuities and his insights have appeared in hundreds of publications. He’s worked a number of times with the NAIC, specifically discussing seniors, the decision-making process, etc.

So with that Jack, a good friend of WealthVest Marketing; we love to have you. Thanks so much for taking your time, and the floor is yours.

Jack: It’s good to be here. One point I’ll start off with is I’m going to be talking about behavioral retirement planning. What that means is why people buy what they do and the real way that people make decisions. What I’ll make available to everyone after this is over, through WealthVest, is Behavioral Annuity Planning, which is a similar type of thing. It shows how to have annuities fit in with retirement and why it seems to fit in from a cognitive point of view. That will be available through WealthVest after the presentation.

I’m just going to kind of get started because there’s two parts to this, really. The first part is talking about the difference between the Wall Street, the classical approach and the behavioral approach.

Wall Street essentially solves for “A” which means solves for assets. The goal of the traditional plan is you build up enough assets to survive retirement. The problem is for most people, that’s not what they need in retirement. I mean yes, you may need assets for a bequest need and you may need assets for emergency cash, but what you’re typically trying to do is produce income in retirement. So the classical approach is a little convoluted in that it builds up assets and doesn’t directly solve the problem.

The other issue that you have with the classical approach is there’s five problems that can get in the way of producing the income solution. First is the classical approach may not well adapt to the cost of living; the rise of inflation on your money, you’re unsure of what the returns will be. Living too long, the longevity risk. In addition to payments, you can’t guarantee the payments. They’re estimated, but they’re not guaranteed for life. And finally, there’s the sequence of the market returns because that can lead to the EBY effect, which means Early Bad Year effect, also known as “It stinks to be you if you retired in 2007 effect,” that says an early bad year can really screw up your retirement.

With the classical approach, these five things, which also have the accruement CROPS or CROPS, can result in a bad retirement. Bear with me on this one. If you planted your field with annuities, you’re less likely to have CROPS failure. Now that’s the result of having way too much free time last Thursday, but the point is valid that there are issues with the traditional approach.

One of the big ones is kind of insidious because it’s not talked about a lot, is the sequence of events. Now what this slide shows is somebody retiring at age 70 with 100 grand, taking out 6 percent or $6,000 a year, and seeing how much money they had as of January 1, 2010. So this is somebody retired on January 1 of the previous years, they’ve taken out six grand a year forever, and we’re looking at the S&P 500 as a return measure and seeing how much of that $100,000 they have left.

The reason I use 6 percent, is if you go back to pre-2008 crash surveys, most consumers assumed that they could take out 6 percent a year and never run out of money. We’re not talking about professionals. Professionals understood that it’s not 6 percent, but most consumers up until that time assumed that they could take out six grand a year and never run out of money.

So to kind of get through this chart, we’ll start at the right side and go up a little bit. There’s that short brown line heading to the right and up. What that means is, if somebody retired January 1, 2009 and took out their six grand and had it in the S&P, they had roughly $120,000 as of January 1, 2010; 2009 was a good year for the market. What that means is this person is now 71-years-old and if they want their money to last another 29 years, until age 100, all they need to earn is 2.94 percent a year from now on and they’ll make it happen. They can take out six grand a year for the next 29 years and they only need to average 3 percent a year. So that’s a positive. That would be an EGY effect, Early Good Year effect.

But if you look at the other people that retired in the mid [7:20.3], 2005, 4, 6, 7; you find out that they have less than 100 grand right now; somewhere between $60,000 and $80,000. So to continue to be able to withdraw six grand a year until age 100, from now on they’d need to earn 7 to 8 percent a year, which may be problematic in this type of environment we’ve been going through.

Then you look at the blue line, which is the poor person that retired January 1, 2000. Well their 100 grand is now down to a little under 20; it’s about $19,700. They’re not 80 years old, they’re going to try to make it to 100, but that means they would have to earn 31 percent annual return to make it happen. The reality is, the classical approach in that case means the person would run out of money by age 83 or 84. So that’s the problem with the approach, and that’s where annuities can help, and also understanding how clients think about their retirement.

Again, the traditional approach, if you have a client that needs $50,000, and I’m just picking a number out of the air; the classical approach says you take the $50,000, you divide it back out by a safe withdraw factor, which in the past it’s often been 4 percent, and that means you need $1.25 million in assets to cover your retirement needs. Then we often apply a rule of thumb; some variation of Rule 100, and because this person is 70, we put 30 percent in stocks and 70 percent in bonds. So that’s traditional or classical retirement planning, and that’s what exposes you to CROPS failure.

The other alternative we’ve had for 2,000 years is you can buy a life annuity. If you look back on the actuarial side, starting with a guy named Yaari, Y-A-A-R-I, he postulated 50 years ago that unless there’s a bequest need, a rational person would always buy an immediate annuity because that takes care of the life income.

When I was doing this presentation, I priced a joint annuity for two 70 year old – man and wife, with an inflation rider. It would adjust to inflation, cost of living index, and it cost $1 million dollars in assets. So you can buy an annuity that will accomplish what you need to accomplish; the $50,000 a year. You can do it for a quarter of a million dollars less than it would cost you using the classical approach, and nobody will ever do it because they don’t buy it. That’s become known as the annuity puzzle. And the reason for the puzzle is people don’t want to spend the asset to get the income. They don’t want to turn from being a millionaire into becoming a pensionaire, and that’s been the problem with the annuity side in the equation.

But there’s a different way to look at retirement planning that doesn’t go to one extreme or the other, and that’s the behavioral side. The way it starts is you take the client and you have them create a retirement budget. You don’t do a replacement ratio, you just have them calculate what they think they’ll need in retirement. If they’re already retired it’s easy, you just have them pick up a checkbook and look and see what they’re doing. If they’re not retired yet, you have them estimate what it would cost to provide a comfortable retirement.

This does a couple of really good things. The main one is it crystallizes their thinking about retirement. Because for a lot of people, retirement is the same thing as heaven. It’s some place you strive for but you don’t really feel you’re ever going to reach, but when you start talking about real numbers, it crystallizes their thinking and it crystallizes what they do. So that’s part one of making the budget.

The other thing it allows you to do is determine which expenses are essential and which are nice. Now all these expenses are nice. This is a $70,000 income this couple decided they needed. They’re getting 20 grand from social security, they need $50,000 to come from outside resources, and this would provide for them a nice retirement.

What I’m asking y’all to do is go back to these clients and say, “Alright, you’ve told me what you’d like to have, now what’s essential? What are the essential expenses? What can you do without for a year or two to get by on less money? Can you go to McDonald’s instead of Shay Expensive? Can you use generic drugs instead of name brand? What can you cut out?”

What we’re trying to do is build a two-year period where they can recover from a bear market and not touch their invest assets. And from doing this with consumers, it would not be surprising to see them reduce their retirement expenses by $20,000 – to go from $70 to $50,000 and then you subtract out social security, and now you only need $30,000 from your outside assets instead of $50,000. It’s not surprising to see big dips, because again, you’re getting people to look at just the essentials.

So now we solve for the essentials, which is solving for “I” or income. Two ways to solve for an income for life are using two variations of annuities. The first one we already talked about and that’s the immediate annuity for life; a joint annuity with a cost of living feature.

Now $30,000 is 60 percent of the $50,000 we calculated. We were first talking about a million dollars, we’re now talking about 60 percent of a million, so $600,000 placed in that immediate annuity would solve this problem, and that’s less than a million. So you’ve freed up more cash for the investment side.

The other option you could do is take a deferred annuity, but have one that has a guaranteed lifetime withdrawal benefit; a GLWB, a lifetime benefit rider or however you’d like to refer to it. That requires slightly more assets because the payout isn’t as great, but it leaves the consumer in control of the assets. So for this 70-year-old, several annuities would provide a $30,000 income based on $667,000 of assets. Placing that in the deferred annuity would guarantee a life income of at least $30,000 a year.

So what we’ve done is we’ve now solved our essential income problem for $600 and $667,000 bucks. Regardless of what happens, the consumer knows their essentials are always taken care of. But they still want the $50,000; they’re not giving up the 20. We can get that from the investment side, but now we can be much more aggressive on what we take out from the investment portfolio. I have found if you run the numbers, if you can take out 70 percent from an investment portfolio quite easily, not run out of money for a 35 or 40 year period because you can invest more aggressively, and because you’re not taking money out during the bad years. If you don’t take money out in ’08, you don’t need as much money to take out a higher percentage in 2011; that type of thing.

So what we can do is we can reach a $50,000 income level for $900,000 worth of assets. That’s $30,000 guaranteed for life; the other $20,000 will be available every year that the market doesn’t stink, and we now have a solution that is cheaper than the immediate annuity, it frees up more assets, and it is $300,000 cheaper, at least, than the classical approach. And with this approach, we have assets that are free, we have an income that will last for life. It takes care of the client’s emotional needs and it takes care of their financial needs, and that seems to fit into what we are hearing in other surveys.

I apologize for any background noise. I found out today they’re doing construction next door. Hopefully that sound will fade.

AARP just finished a survey up and released it this year. It looked at workers and retirees. It’s a great survey and I suggest you get a copy of it. It was very powerful on the way people felt about annuities.

For one thing, as you can see there, 93 percent of the workers and those retired said it was very important to have a dependable monthly income that lasted for a lifetime. That’s a very strong number; a very powerful number. The other thing that was kind of interesting was when you look at 401k participants and IRA participants, over 103 of each said they wanted to take their money and buy an immediate annuity. More workers with 401k plans or IRA’s said they wanted to buy an immediate annuity with over half or most of their money in their qualified plan than take managed withdraws or take cash, and that’s never happened before. That’s a very strong number.

The elephant in the room that they didn’t talk about, and none of these surveys have really addressed, is nobody talked about GLWB’s. Nobody said to the consumer, “How about if I give you something that will give you an income that is higher than you can get from interest, higher than you can get from dividends; it’s guaranteed for life, and you have complete control and access to the entire asset amount. Would that be of interest to you?” So nobody asked that question. I have a feeling if we start asking workers and retirees about GLWB’s that number is going to go from 1 out of 3, to possibly 1 out of 2 or better. There’s a strong behavioral need for annuities.

The other thing the survey found out is that people are not familiar with annuities. Retirees are to some extent, but 1 out of 2 workers said they weren’t familiar with annuities. And you’ve got to think about that one;. We’ve got over a third of the people saying they want to buy an annuity and we have over half of the people saying that they don’t know anything about annuities. It seems to indicate that if more people knew about annuities they would be buying a lot more annuities.
So the whole point of the behavioral aspect of this, is it’s solving a very legitimate need, it incorporates annuities into providing a lifetime income, and it still provides a huge place for managed money for advisors to do their job in providing a better income down the road, and then taking care of bequest needs and other types of needs. So it’s a win/win for both sides. It’s very strong and it is the coming thing. That’s part one, that’s the behavioral side.

The other way you can look at annuities is as a product sale and this is GLWB’s using them. A product sale is, instead of selling an annuity, what you’re really selling is a specific income. Not “an income,” you’re selling $12,000 a year, you’re selling $10,000 a year, you’re selling $50,000 a year; that is your product. And the story to the client is, “I have a product that will give you $10,000 a year. Are you interested?”

What we’re appealing to is the part of the decision process known as mental accounting. What that means is many people, most of us, break decisions into different categories, and when it comes to retirement, we tend to associate and line up together income and expenses. So we might, in our own minds are thinking, okay we’re going to use any gains we make off the exchange traded funds for travel. We’re going to use the dividends we get off the utility stocks to pay our utility payments because that feels kind of like a nice round-robin thing. And we might use an annuity to pay for the house. So this is positioning an annuity with a lifetime withdrawal benefit as a product, and the product is a specific income that you pre-determine.

Stage two of this is you make it a grid sale. And what you do to make the grid is calculate the income and then go backwards to calculate the premium needed, but you do all that in the background, so what it amounts to is going to the client and saying, “Mr. Smith, you said you wanted to retire at age 68. I can give you $12,000 a year. You’re 61 today. If we put our fingers together and drop down from 68 or from 61; if you give me $127,018 today, I will absolutely guarantee you $12,000 a year for the rest of your life beginning at age 68,” and that’s the whole sale.

You’re selling an annuity, but it’s only because that’s what gets you there. The sale is playing to the mental accounting where the client is seeing the need for the $12,000 and they come up with a placement for it. The nice thing about the grid sale is it’s very easy and simple. Where your fingers meet on the chart is the premium needed. It shows the cost of procrastination. If the client says, “I don’t know. I think I’ll wait until next year,” you say, “Well that’s great, but next year it’s going to cost you $137,179 so you better buy it today.”

The other thing is it’s very fair. It’s very equal. Everybody age 61 pays the same premium. That’s a very democratic type of approach. And what you do to get there is you take the payout you want, you divide it by the payout of the annuity you’re looking at. You then take that future income account value, plug-in the roll up rate for the number of years, and then plug in your years to get your present value or today’s premium.

Or you can do this a lot simpler by contacting WealthVest, because they’ve got these grids already made up. All you do is get the grid from them, and where your fingers meet is the premium needed.

I use $12,000 for this because, why not? It could be for any amount, and you can make this to cover specific needs. You can make this for $1,000 a month unit. You can make this for a younger age. You could say somebody age 55 that reaches full retirement would pay $105,872, but because your annuity has a bonus, they only need $100,831 to accomplish the same thing.

So for this specific annuity you can tell the client where your fingers meet, “If you wait until age 67, we can give you $12,000 a year for $100,831.” That’s a very powerful story; $12,000 on $100,000 deposited today. A very strong story.

You can do this for smaller amounts. You can make this into a vacation fund. “I am selling a $6,000 a year for life vacation fund. You’re age 60, you want to start taking your fund out at 68; give me $61,745 today, but wait – there’s a bonus. If you act now for only $58,804 we’ll give you $6,000 a year to go fishing, in your retirement, for as long as you live. And if you don’t like it, you can take your money and leave because you’re not required to take the income. You have complete freedom at anytime to do what you want to do.”

The whole point of this little synopsis here is just to try to acquaint folks with the idea of behavioral retirement planning. It has to do with the way people rally make decisions, and I’ve tried to show today just a couple of ways that annuities seem to fit in with the way people make behavioral decisions and decisions about retirement. I hope the new piece on Behavioral Annuities fills in some of the gaps today.

That’s all I’ve got for a presentation, so we can open her up!

Dana: Jack, thank you so much for joining us today. I have a group of questions for you, so I’m just going to go through them and have you answer them.
How does this persistency of low interest rates affect your thinking as annuity benefits continue to be reduced by the carriers?

Jack That’s an excellent question, and what is means is there’s really a type of fire sale mentality. As this environment continues, and for what it’s worth, I see its continuing for two more years at least; yes, there’s going to be more pressure put on annuities to reduce their benefits, so there is a fire sale aspect to act now to lock in a higher payout rate and a higher roll up rate. So yes, it definitely adds the pressure to act today.

Dana: What would you say to an advisor who has typically used muni’s to develop income for clients and has been hesitant to use annuities?

Jack: It goes back to the life bit. Only an annuity can provide an income that you can’t outlive and that’s what it comes down to. This is not a tax play. This is really not a return play, this is an insurance on your retirement play. What you’re really doing is you’re buying insurance on your longevity. You’re buying insurance on your income, and you need to think of it as buying an insurance policy and not as an alternative to a muni bond.

Dana: We have a few folks that are asking if you could walk through slide two and number seven again. I think folks are taking some copious notes and hoping you might be able to share those again.

Jack: By two, do we mean that one?

Dana: I think it is actually slide three.

Jack: How about that one?

Dana: It must be four. I’m sorry.

Jack: The main reason I included that slide is it’s pretty, but it does tell a story. My apologizes for rushing through it.

What it says is you retire on January 1st of any one of these given years, so that’s number one. You take out $6,000 January 1st every year thereafter; that’s part two. Your balance is going to [27:16.9] based on the annual return of the S&P 500, and that’s without dividends, it’s just on the S&P 500 because you’re not supposed to get hung up on the S&P 500, you’re supposed to get hung up on the concept. The fourth part is, the world ends January 1, 2010 and we see where we stand depending upon which year you retired. Then we see how much money you’ve got, and now if you keep taking $6,000 year out; how much you’d need from this point forward to last until age 100.

So that’s kind of where we’re at. If I did this really badly, I’ll try to do something in writing because this came from an article I wrote, and I might just include the article in the Behavioral Planning stuff.

Dana: Yes, folks are asking for some of that information. And then Jack, could you get to slide number seven, which actually might be number eight.

Jack: This one maybe or that one?

Dana: I think if you could just go over that one again, I believe.

Jack: Okay, what we’re doing here is we’re trying to get down to the essentials because that’s what we’re taking care of with the annuities. We’re not using all the money to buy an annuity because that probably doesn’t make the most sense for the person; we’re just covering the essentials.

The traditional way to do that is use an immediate annuity. There are a couple of carriers out there that will offer an inflation adjusting immediate annuity payout. The other alternative is you buy a deferred annuity and almost immediately start taking out whatever the guaranteed payout is on that annuity.

So for a couple age 70, with a lot of these annuities, they have a guaranteed payout of 4.5 percent. So $667,000 placed in that annuity with a 4.5 payout will generate $30,000 a year. That’s what we’re taking care of with the GLWB.

Dana: There was actually a question about seven as well, so could you go back to that one as well?

Jack: All you’re having your clients do is create a budget for retirement; that’s all you’re doing. You’re asking what can you get by with for one or two years. We know what you’d like to have, but what can you get by with? Tighten the belt, and that’s what we’re asking. We’re trying to find out the essential income that they have to have, and then we solve for that with an annuity.

Dana: How do you reconcile studies that report the word annuity has a negative connotation with investors if they are such an invaluable part of the retirement planning process?

Jack: Well, should I go into my long story about how the insurance industry shot themselves in the foot for 20 years or just go to the solution?

The solution is, the attitude in the consumer’s minds is changing much faster than the attitude in the advisor’s minds.

Again, AARP went out and asked people, “This is an annuity, do you want to buy it,” and over 30 percent of the people, 41 percent of the people in one case said, “Yes, we want to buy an annuity. We want to buy the annuity that everybody says we shouldn’t buy because it pays an income for life, it’s illiquid and we lose the asset but we want to buy that.”

The negative oppress that’s been on annuities and the negative talk from consumers is quickly changing. It’s been a ground swell of change in the last three years, and the consumers are moving much faster on being accepted than the advisors are.

Dana: Folks are asking for copies of the slides and all of the good information that you’ve shared with us. We will gather all of that together everybody and you will see a link to the recording via e-mail tomorrow. We will also include, I believe, a PDF of these slides and the other materials that Jack mentioned earlier in the call.

I think, at this point, Matt I will hand it over to you for a wrap up. Thank you Jack.

Jack: Thank you.

Matt: Thank you Dana, and Jack as always, it’s so great to have you on and get this information, so thanks so much for that.

You know as we talk right now, we’ve got a 10-year treasury at 1.46 percent. North American Annuities came out yesterday and announced that they’re making some big changes to the bonuses of their products and also to compensation. And as Jack stated, and I firmly believe, we’re going to be in this environment for the foreseeable future, so as things change, the value of WealthVest to you is amazing because we are here every day. We can give you the best rates on the best income riders and the best products available, so I would recommend and encourage you to use us as an advocate there.

One other thing to keep in mind, as I was talking to one of our largest producers and how they set up the entire annuity conversation with their clients, and I thought it was worth repeating because he’s had great success with it. He said, “You know Matt what I do is, I sit down and talk to my clients and have them look back through their lives at all the different opportunities that they’ve had to offload risk to insurance companies. You insure your car, you insure your house, you insure your life, and in many cases, you insure your disability income. All we’re doing is offloading the risk of your retirement to an insurance company, and that’s really the reason why we’re looking at an annuity.”

I thought that positioning was really powerful because it sort of draws back their life experience and then sort of puts the annuity front and center as a risk offload; something that they’re very familiar with.

So with that, the number at WealthVest Marketing is (877) 595-9325. Give us a call if there is anything you need. We will be following up with an e-mail with the presentation so that you’ve got it all. We will also be featuring Jack ongoing in the future, so keep an eye out for future e-mails that will advertise and give you information on him coming on again.

I wish all of you a fantastic Wednesday, and thanks so much for joining us again. Take care!