Why unrealistic optimism is scuppering your retirement plans

In a study published in the journal Risk Analysis[i], scientists found that people tend to underestimate the risk of medical interventions and overestimate their benefits, meaning they convince themselves that it’s better to undergo an operation or invasive medical treatment, than not – even if the chances of negative consequences are reasonably high.
This finding says so much about human psychology. Optimism bias – where people believe that they are unlikely to experience a negative event – is common across all genders, nationalities, age and ethnicity.  We saw it in action amid the coronavirus crisis as people flocked to pubs and restaurants before ‘lock-down’ ensued, and then continued to attend parks and natural beauty spots, despite the restrictions. Most of us are pre-disposed to the belief that ‘it will never happen to me’.

Underestimating retirement

But what if that belief transcends our finances? As wealth planners, we see the consequences of unrealistic optimism every day. Many of the people we meet are primarily concerned with paying the bills and school fees, while also affording a nice holiday or two a year. Yet a surprising number are giving little or no thought to how they will maintain their lifestyle in retirement. This issue is not wealth specific. Somewhere, deep seated in human psychology, lies a belief that it will all work itself out for the best, regardless of what you want to achieve in retirement.
As part of our ‘What’s Your Number’ study[ii], we interviewed 1,500 UK adults and uncovered some worrying findings. Just 12% of people under age 55 had set a target for their pension savings, which means around 18 million UK adults could be on course for a crushing disappointment. And for those who have set a target, it’s looking likely that it will fall short of expectation. As the diagram below shows, we found that the average targeted retirement pot is £355,000, which would produce an average annual retirement income of £13,000. Given the desired annual retirement income for the average UK adult is £34,000, that’s a big shortfall. And the same applies to wealthier individuals, who have a desired annual income of £59,000 a year but are on target for an average of £24,800.


Facing up to retirement reality

Usually it takes a shocking event to bring the reality of certain risks home to people. Whether it’s your best friend fighting lung cancer because of years of smoking, or watching a hard-hitting documentary on climate change, it will take something significant to effect a change in behaviour.
As the longer-term economic repercussions of the recent coronavirus crisis unfold, we may hear some shocking stories of people who have found themselves close to poverty in retirement as a result of inadequate preparation for this unexpected shock. If the younger generation sit up and take note, then at least some good might come of it. But the trouble with misplaced optimism when it comes to retirement, is that by the time reality strikes, it could be too late. To avoid falling victim to any unintended consequences, ask yourself three simple questions:

  1. At what age would you like to stop working or have the financial freedom to do something different?

  2. What’s the monthly income you’ll need to support that new lifestyle?

  3. What’s the size of the pension fund you’d need to generate that income?

    If you’re struggling to answer any of these questions, then we highly recommend you seek help from an expert. Our study found that 82% of people who have sought financial advice have set an achievable target for retirement, and 88% of longer-standing advised clients state they are either happy or very happy with the current state of their finances.
    Get your finances on track

Retirement planning should not be left to chance

Financial advisers are ideally placed to help you set achievable financial targets, as well as be more realistic about when you can retire and how much income you can expect to receive. They can also help you manage different income streams, ensuring you minimise your tax bill both before and throughout retirement (yes – you do continue to pay income tax when you retire).
Despite this, nearly half of people (48%) in our survey have never spoken to a financial adviser, including 19% of the highest-earning people. There are good, trustworthy experts out there who can help you, regardless of your age or wealth. Investing your time and money now can, and will, pay dividends in the future. If you don’t want to seek help from a financial adviser then please do get in touch with the Pensions Advisory Service. They offer free and impartial guidance to people with workplace and personal pensions.
Either way, don’t run the risk of falling short in retirement, and don’t believe it will all work itself out in the end. You will, and it won’t.

[i] www.sciencedaily.com/releases/2018/10/181025113221.htm

[ii] The survey findings within this article have been taken from our ‘What’s Your Number’ report - www.sanlam.co.uk/document-repository/group-brochures/2040-what-s-your-number-research-report
The information and opinion contained in this article should not be treated as a forecast, research or advice to buy or sell any particular investment or to adopt any investment strategy. You should seek personalised financial advice before taking any action. Any expressions of opinion are subject to change without notice.

Past performance is not a reliable indicator of future results. Investing involves risk and the value of investments, and the income from them, may fall as well as rise and are not guaranteed. Investors may not get back the original amount invested.

04 May 2020
A time for patience

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