By Randy Myers
Many financial experts are touting immediate annuities as a tool for generating retirement income. Behavioral economics suggests they may want to look at stable value funds, too.
The problem with immediate annuities, author John Nelson told participants at the 2010 SVIA Fall Forum, is that they require retirees to exchange a lump sum of money for small monthly payouts. While that can make superb economic sense, it runs counter to prospect theory, developed by psychologists Daniel Kahneman and Amos Tversky, which holds that economic losses are more painful to people than economic gains that are pleasurable.
“Let’s say someone has saved up $500,000 and uses that money to buy an immediate annuity,” explained Nelson, co-author of What Color Is Your Parachute? For Retirement. “It feels like they are losing $1 million, while they are only getting a payout of several thousand dollars a month.”
By contrast, Nelson said, stable value funds are intuitively appreciated by retirees because they preserve principal and accumulated earnings. Accordingly, he argued, retirees are likely to view withdrawals from a stable value fund as more inviting than trading their retirement savings for a stream of annuity payments.
Nelson urged Forum participants to look for ways to recast the image of stable value funds in terms that reinforce their positive attributes. “Stable value,” he said, “could mean a lot of things: ‘stable access’ to your account balance, ‘stable emotion’ because it causes no losses, and ‘stable income,’ which equates to happiness.”