Aging’s Adverse Impact on Decision Making
Charles Rotblut will speak at the 2015 AAII Investor Conference this fall; go to www.aaii.com/conference for more details.
The aging process can hurt your ability to make proper decisions about your finances. On average, 29.2% of individuals aged 80 to 89 have cognitive impairment.
This somber fact was the subject of a presentation at the Morningstar Investor Conference, which I attended shortly before press time. David Laibson, a professor of economics at Harvard University, displayed several statistics showing how decision-making skills deteriorate late in life. His data confirmed articles I have read elsewhere.
I realize this is a sensitive subject. Nobody wants to admit they are losing their mental abilities. Plus, the statistics do not apply equally across the population, as some 90-year- olds remain very sharp. The aging process affects everyone differently, and physical health, emotional health, stress and genetics are all contributing factors.
There is also the sense of losing control that some may have. This is understandable, especially for those who have always been in control of their finances and worked very hard to build their wealth. Unfortunately, unlike a physical ailment that presents clear symptoms, it is difficult to notice that your own mental capabilities are worsening. As Laibson said during his presentation, “We don’t remember that we have a bad memory, and we don’t know how bad it is.”
What the Statistics Show
Laibson’s presentation was filled with statistics documenting declines in mental abilities as age progresses. I spoke with him briefly about a possible future article for the AAII Journal based on his research, but in the meantime, I wanted give you some of the statistics.
A person’s ability to solve problems peaks around age 20. Offsetting this gradual decline during midlife is an increase in “crystallized intelligence” (e.g., knowledge). Thus, our wisdom compensates for worsening problem-solving skills. There is a limit to this compensation, however, with 53 being the prime age for making financial management decisions.
In fact, middle-aged applicants tend to get the best interest rates on loans, whereas young adults and seniors pay much more. Why? Individuals in their 20s lack high-paying jobs, wealth and financial skills. Seniors are less likely to accurately compare rates, ask for better terms or fully grasp what they are paying for.
A big reason for this has to do with mental capacities. On average, an 80-year-old performs at the 16th percentile for cognitive tasks. Cognitive impairment is 29.2% for the 80–89 age group and 38.8% for those aged 90 or older. Mild dementia is a common diagnosis, with two million new cases of dementia diagnosed every year.
Financial Steps You Can Take
Laibson provided several suggestions for protecting a retiree’s portfolio from these risks. The audience was primarily financial advisers, and Laibson’s advice was targeted to this group, but he suggested several useful steps that individuals could follow.
The first is to set up a durable power of attorney, a living revocable trust, a living will, a health care proxy and a will. Laibson told advisers that this should be the default policy for every client when they turn 65.
The second is to perform a regular annual check-up of finances and related documents. This is something I strongly advise as well. Make sure all beneficiary and estate documents are current and that they reflect any changes in family status and contact information.
Finally, guard against financial mischief and ensure against both longevity and inflation risk. Laibson recommends annuities. I suggest consulting your children or a trusted individual for a second opinion before making significant changes to your portfolio. Also realize that stocks can help your portfolio grow faster than the rate of inflation.
—Charles Rotblut, CFA, Editor, AAII Journal