Retirement income options, happiness and a case of spurious correlation?

A fascinating new paper by L&G titled Retirement Income Riddle: New perspectives on how we make financial choices and their impact on our well-being attempts to look at the relationship between happiness and the retirement income option that people choose.

Conducted by think-tank Demos using the English Longitudinal Study of Ageing (ELSA) database, the research focuses on people on a modest income in retirement (i.e the bottom half of retirement income distribution). It considers whether the choices customers make at retirement have any lasting impact on their well-being.

The results of the research are rather interesting. Looking at the bottom half of the income distribution, the research found that people in drawdown pensions are more likely to show signs of unhappiness and depression. 

For instance, for people on modest incomes, those with drawdown pensions are more than twice as likely to say they never feel free to plan for the future (12.5% compared to 4.95%). These results appear to be consistent across questions about happiness, life enjoyment, depressive symptoms and sadness over the past week.

 Source: L&G

Source: L&G

20% of people in drawdown vs 8% of people with an annuity said that they had not enjoyed their life over the preceding week. 

First, the attempt to link retirement options to happiness should be welcomed. However, I wonder if this is a case of spurious correlation as opposed to causation.  After all, the research also suggests that those who choose to purchase a drawdown pension are significantly more likely to rate their health as 'very good' or 'excellent' than those who buy an annuity. Should we take this to mean that annuities make people sick, or that sick people buy annuities? You get my point - spurious correlation!

  • It is possible that retirees in drawdown worry more about the future than their peers with annuity income. However, isn’t equally plausible that people who are natural worriers tend to choose drawdown as a way to avoid - or defer - having to make a permanent decision (annuitising) that they can't then reverse?

  • We are sitting on one of the longest global equity bull markets in the last 100 years. Since Sept,.2008, the UK stock market has nearly doubled, and the US stock market has risen by nearly 180% over the subsequent decade.  I don’t really understand why anyone who started income drawdown in the last decade would be unhappy with it, unless of course, they are sitting in cash, withdrawing unsustainable amounts or are invested in the South Asian Forestry Fund. 

  • And if these people are unhappy with drawdown, why aren’t they annuitising? Unlike annuities, drawdown isn’t a permanent decision. Again, returns in the capital markets in the last decade mean that choosing drawdown hasn't been a terrible decision to date.

And if these people are unhappy with drawdown, why aren’t they annuitising? Unlike annuities, drawdown isn’t a permanent decision. Again, returns in the capital markets in the last decade mean that choosing drawdown hasn't been a terrible decision to date. 

The author noted that 'on most measures of wellbeing, social participation and financial security, the crude figures seem to suggest that people with drawdown pensions do better, but these associations disappear when we control for health, wealth and education.'

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 Source: L&G

Source: L&G

Clearly, there are very good reasons for choosing an annuity, particularly for people on lower incomes. They tend to have low financial capability and are unlikely to have access to a financial adviser to help manage their drawdown.  This research adds to the reasons why annuities might be right for these people. But there's still a lot we don't know about the link between retirement income options and happiness, particularly for typical financial adviser clients, who tend to be at the wealthier end of the spectrum.