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SJul 20, 2012

How Much Is A Future Year Worth?

Scott Burns

There are two kinds of people in this world. Spenders. And Savers. There is no middle ground.

The savers prepare for every contingency in life. They have retirement savings. They have a reserve fund. They have long term care insurance. And they never borrow money. They do this by putting off until tomorrow (or much further) what they might do today. Some call them by their technical name: Party Poopers.

Their dilemma is summarized in a single statement: “If you don’t buy that Corvette, you can be sure your grandson will.”

Spenders can usually be recognized by their vacations, the newer model cars in their garage, their restaurant spending and the fact that they drink high-priced California wines with weird names instead of Three Buck Chuck.

Their dilemma is summarized in another statement: “My retirement will be fine as long as I die by Friday.”

Financial planners are savers. That’s why they want us to be 95 percent confident we can finance a 30-year retirement even though, as I have noted a number of times, there is an 82 percent probability of being dead by then. Somehow, it doesn’t seem sensible to be 95 percent prepared for something you only have an18 percent chance of experiencing. Honk if you feel the same way.

So how can we think about the future in a way that allows us to live well enough to avoid remorse for experiences missed on the one hand, while being prudent enough that we don’t have the retiree version of “too much month at the end of the money”— too many years without any money?

One possible solution is to value future years by the probability that members of a group of people just like us will then be alive. Yes, such information exists! It is available for free, like everything else on the Internet. You can get it by visiting the Center for Disease Control website and downloading the National Vital Statistics Reports’ “United States Life Tables.”

Trust me, you will be thrilled at the result. If you loved those wonderful trigonometry tables in high school or the mortgage tables that you may have come to know as an adult, reading the Life Tables will add a new dimension to your life. For one thing, you will realize how fortunate you are to be alive and thinking about this problem.

Why? Because if you are 65 you will realize that you already are a long straw holder. Of every 100,000 people born, the tables tell us that 83,251 are still alive at 65. That means an unfortunate 16,749 drew short straws and aren’t with us anymore.

From the same table we can figure out the probability that people like us— of the same age, gender and race— will still be around. Here are the results for the U.S. population as a whole. (If you are a black male, you’ll probably die sooner. If you are a white female, you’ll probably die later.)

  • Between age 65 and 66 the group loses 1,137 of its 83,251 people. A 65 year old has about a 98.6 percent chance of surviving the year. So that first year is assigned a value of .986 because that is the probability of living through it.
  • After that, we calculate the odds of living to any particular year and value the year at that amount. By age 75, for instance, a 65 year old has only a 78.5 percent chance of still being alive, so we give that year a value of only .785.
  •  By age 90 a year is “worth” only .221. (You may, of course, feel differently about the value of that year when you are 90.)
  • If we add the adjusted values for the 35 years between age 65 and 100, the total is 18.1 years. That’s a lot less than 35 because we’ve put a lower value on each successive year since we may not be alive to live it.

Here are some observations from the figures:

  • The 10 years from 65 to 75 are “worth” as much as all 25 years from 76 to 100 because of the higher probability of being alive in the first 10. So go for it today.
  • The 17 years from 65 to 82 are “worth” 4 times as much as the years remaining from 83 to 100.

What does it all mean? Decide for yourself. It tells me that now is a lot more important than later.

Filed Under: Retirement