Could longevity risk affect your DC investment strategy?
Since the Freedom and Choice pension reforms, we’ve moved from a world where most UK retirees bought an annuity, to one where many individuals choose income drawdown. In doing so, they not only bear the risk of changes in the value of their pension but also the uncertainty around how long they will live. This uncertainty over future lifespans is known as ‘longevity risk’.
The main objective of a DC investor taking income drawdown is typically a “life of income”. They may also have other objectives, such as flexible spending and inheritance planning, but the main aim is to provide a high level of income for life; any money left behind is considered a bonus.
Retirement outcome risk is affected by two key components: investment risk, reflecting the fact that future investment returns are uncertain, and longevity risk, reflecting that how long an investor will live for is uncertain. Longevity risk is often brushed under the carpet when it comes to giving advice or making strategic decisions. However, it is a very important component of retirement risk and has significant implications for investment and spending decisions.
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