Interested in learning how to improve your retirement security? You might be served well by recent developments in a field known as "behavioral finance" that address the damage that natural human foibles can cause to your retirement planning.
Employers and financial institutions alike are recognizing that people tend to fall into one of three different groups regarding their interest and ability to design and implement their own retirement plan:
- Do it for me. These people simply want someone they trust to tell them what to do, and they want the trusted person or institution to take the actions needed to implement the plan.
- Help me do it. These individuals want some input into planning their retirement and may want to be presented with a few choices, but they still rely heavily on expert advice and execution.
- I'll do it myself. These are the few people who have the wherewithal to analyze their options, as well as the self-control and ability to implement their decisions.
Most experts place the vast majority of people in the first two groups. Yet until recently, most 401(k) plans were designed for the last group. But progressive retirement plan sponsors are now using "enlightened paternalism" to guide employees to the solutions that should work for the majority of people and in most situations, while also giving you the option to choose another approach if you prefer.
Here are some features that innovative retirement programs are incorporating:
- You'll be automatically enrolled into savings plans, and you'll have to opt out if you don't want to contribute. This feature uses the power of inertia -- many people won't bother to opt out.
- Contributions will be set at amounts sufficiently high to accumulate meaningful savings. This feature will set total contributions -- both employee and employer combined -- at amounts ranging from 10 percent to 20 percent of pay. You'll always have the freedom to change the default contribution.
- Funds are automatically invested in target date funds that are intended to remain invested for long periods of time with the appropriate balance, given your age, between risk and stability. Once again, you'll have the freedom to change the default investment fund if you think a different fund would work better for you.
These features have been successfully tested and implemented at large employers and are making their way into more and more employer-sponsored retirement programs. Bolstered by this success, innovative employers will be exploring the next frontier of behavioral finance that can improve retirement savings, including:
- Limitations on loans and early withdrawals that leak away needed retirement savings. Experience is showing that many people just can't resist the temptation to put their hands in the cookie jar before retirement.
- Automatic approaches to generating reliable, lifetime retirement income from savings. Devising effective retirement income strategies is simply beyond the capabilities of most people.
- Innovative programs that will improve employees' decision-making about claiming Social Security and pension benefits, and improve health insurance purchasing and medical results.
Cynics will say behavioral finance techniques infringe on your freedom, are manipulative and smack of "Big Brother." But when you think about it, that really doesn't make much sense. You benefit tremendously in countless ways from the expertise and ability of others. Most people wouldn't build their own cars or houses, or be their own doctors or accountants, even though they're free to do so if they choose. And while a few people are sufficiently trained to carry out these complex tasks, most aren't.
The same is true of retirement planning. If you have the time and training to do it yourself, by all means go ahead. There are plenty of ways to train yourself, and you have many tools at your disposal. But if this doesn't describe you, find someone or some institution you trust to do it for you or to help you do it. You'll be better off by understanding your limitations and getting someone with experience and knowledge to assist you.
Many of the thoughts expressed here and in my prior post on behavioral finance are excerpted from a forthcoming
paper researched and written with Elizabeth Borges, a colleague at the Stanford Center on Longevity.