Safety vs. Probability: Planning For Retirement

As we progress through life, we find there are certain things we can control and others we cannot. However, even with the things we can’t control, we can exercise good judgement based on facts, due diligence, historical patterns and a risk/reward calculation.

These strategies play an important role in retirement planning. When it comes to accumulation, spending and protecting your nest egg, financial analysts rely heavily on safety and probability planning strategies.

For example, a probability-based approach generally refers to investing. In other words, prices of stocks and bonds will vary over time, and as investors we do not have control over the factors that cause those price swings – such as poor company management, a dip in sector growth, an economic decline, political instability and even global economic implications. We basically have to do our due diligence to ensure the securities we invest in are stable and well-managed, but in the end it’s a bit of a leap of faith. The markets will inevitably rise and fall and our equity investments will be impacted.

When it comes to retirement, financial advisors often recommend the following probability-based investments because they tend to be more stable and reliable:

• Investment-grade bonds
• High dividend-paying stocks
• Real estate investment trusts (REITS)
• Master limited partnerships (MLPs)

On the other hand, the safety side of the equation involves insurance products. Note that all guaranteed payouts are backed by the issuing insurer, not the Federal Deposit Insurance Corporation (FDIC) or the U.S. Treasury Department. So even though insurance products represent strategies that we consider “safe,” they are only as secure as the financial strength of the issuing insurance company.

Insurance contracts are based on insurance pools. This means they spread the risk of losing money across a wide pool of insured participants, betting that a portion of that pool will die early while others live longer. However, that risk is managed by the insurer instead of the contract owner, who is guaranteed to get paid no matter what happens in the investment markets or how many people in the insurance pool live a long time.

Among safety-based vehicles, you might want to consider a long-term care insurance policy to cover expenses should you need part- or full-time caregiving in the later stages of your life. Like homeowner’s insurance, this type of contract leverages manageable premiums to pay for expenses that you might otherwise not be able to afford.

Another safety contract is an income annuity, which offers the option to pay out a steady stream of income for the rest of your life and the life of your spouse – even if the payouts far exceed the premiums you paid. This is a way of ensuring you continue to receive income even if you run out of money.

A retirement plan doesn’t have to rely on safety or probability alone – you can combine these strategies. Many retirees feel more comfortable knowing they have a growth component in their portfolio to help offset the impact of long-term inflation. And within the safety allocation, you can even combine strategies. For example, a hybrid life insurance policy that offers a long-term care benefits rider allows you to draw from the contract if you need to pay for your own long-term care, which simply reduces the death benefit for your heirs. This way you don’t have to pay for coverage you don’t need, but it’s there if you do.