The retirement crisis is both not as bad as it’s made out to seem—and also worse.
This paradoxical situation exists because of how we try to assess the state of retirement finance. We all too often focus on the average retiree, even though this hypothetical “average” individual doesn’t exist. Financial preparation for retirement varies so widely that this average creates more confusion than insight.
The reason to point this out is not just to correct that confusion. It also serves to remind us that the retirement financial situation on which you should be focusing most is your own—regardless of whether there is or is not a crisis nationally. We should never forget the man whose feet are in the oven and head in the freezer but who, on average, feels just fine.
The occasion for these musings is a recent survey by Clever, a real-estate data company. It found that the “average retiree has $177,787 in retirement funds” and that this average amounts to “just 39% of recommended savings” to adequately fund retirement. What can we learn from looking at the average in this way?
Consider first how many retirees in the survey have savings that are less than the $177,787 average: Believe it or not, it’s 80%. You might wonder how an average can be higher than 80% of the participants, but that just means the average is being skewed higher by a very few very wealthy retirees. So this average is not particularly relevant to the great majority of retirees.
It’s in this sense that I say that retirement crisis is worse than it’s made out to seem. If the average level of retirement savings is just 39% of what it should be, and that average is itself higher than what 80% of retirees have actually saved, then the situation is dire indeed.
Consider next the notion that this $177,787 amounts to just 39% of what retirees need—implying that you can retire comfortably if you have $456,000 in your retirement financing portfolio. This also is misleading, since different retirees need dramatically different amounts to live comfortably. Some will need a lot more than that to maintain their standard of living, while some may need less.
Dr. Francesca Ortegren, the data scientist who was the survey’s lead researcher, acknowledged this wide variation in an email: “Because we used averages to describe our survey data, we can assume that some retirees aren’t struggling and are comfortable in their retirement. But that also means that a good deal are worse off than reported here.”
Given this wide variation, how do you go about measuring the extent of the retirement financing crisis?
Quantifying the retirement crisis
One approach is to calculate how much a preretiree would need to save in order to replace, in retirement, at least 90% of his preretirement income. This is the approach used by Boston College’s Center for Retirement Research when calculating its National Retirement Risk Index. The Center’s most recent calculation is that this NRRI stands at 54.9%.
In other words, slightly more than half of preretirees are at risk of having to reduce their standard of living when retiring.
Others believe that an adequately-sized retirement portfolio is a function of a whole host of factors over the retiree’s lifetime, not just his preretirement income. This is why some researchers employ so-called life-cycle models that incorporate factors such as uncertainty surrounding life expectancy, volatility of earnings and medical expenses, Social Security and other pension benefits, and government transfers. These complex models are then used to calculate the optimum level of retirement savings for each person.
These life-cycle models often find that there is a much smaller retirement crisis than suggested by a focus on replacing preretirement income. For example, one 2008 study—“Are All Americans Saving ‘Optimally’ for Retirement,” by John Karl Scholz and Ananth Seshadri of the University of Wisconsin-Madison—found that only 4% of households had a net worth that was below their optimal levels. The NRRI at the time was 44%.
That’s a big difference. While I have no insight into which percentage is closer to the truth, my point here is that commentators can choose studies at either end of this range to reinforce whatever conclusion they want to reach. They remind me of the cynical debater who says “here’s the conclusion on which I will base my facts.”
I nevertheless note that higher percentages are more widely quoted, as they support the narrative that there is a retirement financial crisis. There’s not as much headline-grabbing potential to say that things aren’t as bad originally thought.
But what about you?
What do these studies mean for you in particular? They mean that there is a good possibility that, when looked one way, you don’t have enough saved for retirement and, when looked at another way, you do.
The conclusion I draw from this is that you should be working closely with a qualified retirement financial planner. The number of factors to take into account when planning for retirement is so large, and their interactions so complex, that there are no simple answers, no one size that fits all. Your retirement is as unique and multidimensional as you, and you should be planning for it accordingly.