The significant issues facing those set to retire over the next two decades could well be solved by digitisation, write Marilyn Cole and Vinay Jayaram - just so long as it is done right
The cohort of individuals who are coming up to retirement over the next two decades may pose one of the most complex analytical problems in UK history. Their burning question is: "How can we ensure we do not run out of money while we are still alive?"
These people are retiring at the end of decades of government fiddling with pensions and savings legislation, culminating in pension freedom and choice. They have substantial assets from their homes - and sometimes second homes - and, if they are fortunate, from defined benefit pensions now likely mixed with some amount of defined contribution pensions.
Some, through choice, and others, through necessity, are working later in life than previous generations - often well past their expected retirement age. They are also living longer. For many the state pension age is set to increase as well. Their children and their grandchildren may need a little help with education costs and perhaps a bit of a boost onto the housing ladder.
All this change has been a huge boon to the UK's financial advisers, creating demand for quality financial planning. Yet for those who do not want the full financial advice experience or are perhaps not quite wealthy enough to merit bespoke planning, the choice has come down to execution-only services or pared-back digital advice. Both feel far away from the world people live in - especially when it comes to planning for retirement.
So here is the good news. A well-designed algorithm can cope - provided we take the right approach and design one that starts with the consumer rather than financial products. This is something we have learned from our work with enterprise clients across several countries: if you simply digitise the existing regulated advice journey - as recently-anointed ‘digital IFAs' may soon find out - your chances of consumer traction are low.
Our international experience casts the UK regulatory situation in a dim light. Despite best efforts, the UK faces a combination of a lack of regulatory clarity in some areas combined with what one can only describe as regulatory verbosity. We are plagued by many rules that do not achieve much apart from confusing market participants and, even worse, the end-consumer. Given the nature of UK regulation today, it is not surprising an advice gap exists.
The impact of the confused advice regulations has been inertia, with regulation demanding advice be divided almost arbitrarily into investments and pensions, mortgages and credit, and general insurance - something that becomes clear when you look at the sheer number of post-FAMR ‘last-mile' digital offerings that have failed to achieve consumer traction. At its very worst, the consumer ends up speaking regulatorese as well.
Based on our experience, however, attitudes among consumers give some cause for hope. A small handful of confident, high-intent consumers might, for example, say: "I know exactly what I want, just give it to me." For these consumers, digital propositions should ensure they are not making a mistake, and then get out the way - making it easy for them to act.
Of course, nine out of 10 consumers do not fit that description. They do not know what they need - or even that they need anything - so any kind of advice is going to involve solving a rather complicated puzzle that needs somehow to help them look into their future. Fortunately, there are a growing number of consumers who are happy to go on a digital-only journey - perhaps using a human call centre for clarification.
We also know digital journeys work well for simple products with linear journeys such as ISAs, where the choices and decisions are relatively limited. Yet we are now applying algorithm-based digitisation to more complex products such as disability insurance, with our enterprise clients seeing good early success.
Applied to pensions and the retirement problem, we may be underappreciating what digitisation can do, when it is done right. First, though, we need to address some of the mistakes we are making in our approach to solving the retirement puzzle.
* It is not just about the pension pot
There is too much focus on building digital journeys that help consumers figure out what to do with their pension pot in the wake of pension freedom. If you look at ONS data, it is clear that, for many people at or near pensionable age, the majority of their financial resources sits outside of their pension pot. Of course the pension is important, but what about, say, someone's desire and ability to continue to work into retirement - in other words, their human capital) - surely that is a significant financial resource for most?
There is also other financial wealth. If people have been using their ISA allowances to the full and have general savings and investments, they will have built up a substantial nest egg outside of their pensions. Then there is their property wealth - the equity in their primary residence and any other properties they may have.
All of these sources of wealth translate into degrees of freedom that allow a household to design a lifestyle supported by that wealth. That calculus changes based on what legacy they want to leave behind - for example, an inheritance or gift, helping their children get on the property ladder, or helping their grandchildren with their university bills.
Clearly if you want to do any of these, your next best actions will look very different from simply supporting yourself and your spouse through retirement. In other words, retirement advice needs to be holistic, and cannot be limited to the pension pot alone. Yet we often hear businesses say: "Oh, that is too difficult. Nobody will give us that information." We know from experience that is a solvable user-experience design challenge, not a fait accompli.
The current state of regulation post-RDR and the FAMR is focused on outcomes. While we know face-to-face advisers can adapt their advice to these scenarios, most digital journeys available today can hardly be considered holistic. And if you are not taking a holistic approach, might you fail the outcomes test and find yourself in regulatory hot water in the future?
* It is not just about replacement incomes
The reason some consumers say "I want this much income in retirement" is likely to be because the industry thinks in that way and pushes that logic on to consumers. In reality, however, that is not the question most people have. Most people are effectively asking: "How can we make sure we do not run out of money when we are still alive?" That starts with an expense problem, not an income question. Income is the solution.
What most people should want from their pension is an income stream that, in a worst case, covers their basic expenses, and perhaps a little bit of their lifestyle expenses - something that looks like a defined benefit floor.
Yet they also need something to power their choices - the additional lifestyle expenses, the travel to visit the grandkids, all that good stuff - which is the next layer of their financial planning. And for that they will need to call on their non-pension sources - their other financial wealth, their property wealth, their human capital, and their ability to make trade-offs with respect to the timing and sequencing of what they want to do in the future.
* It is not just about investment risk
Unfortunately, consumers also need to think about healthcare and long-term care. These are problematic, because, just like mortality, they are uncertain - with respect to their timing, their severity of impact and their duration. That can easily blow the mind. Fortunately, there are great experience-based sources from which to draw.
If a client has planned based on a care need starting at age 90, and that need hits them at 70, their plan is of little use to you. Likewise, an illness might prompt early retirement but you also see in the real world that people return from an illness to some kind of part-time work. We must not start to think that illness is something that only the very well-off can overcome. A well-constructed retirement plan can ensure this.
Our experience teaches us that a digital approach, especially one that includes having human reassurance close at hand, can truly help people to begin to address all of these key questions.
Holistic digital retirement advice requires a 360° assessment of all of a household's wealth sources, an understanding of their future needs, wants and wishes, and a realistic approach to the various ‘biometric' lifetime risks and uncertainties that each member of the household might face in their future.
If we combine an intellectually rigorous approach that considers real-life uncertainty and complexity with a well-designed user experience and human reassurance, the financial services sector can not only solve the problem of retirement, but solve it at scale.
Marilyn Cole is managing partner of technology and design financial services agency Space. Vinay Jayaram is co-founder and CEO of Envizage, whose holistic advice engine helps banks, insurers, retail asset managers and pension funds create engaging digital experiences for their customers and members.
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