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Default and naive diversification heuristics in annuity choice

Author

Listed:
  • Hazel Bateman

    (School of Risk and Actuarial Studies, UNSW Australia, Australia)

  • Christine Eckert

    (Business School, Marketing Discipline Group, University of Technology Sydney, Australia)

  • Fedor Iskhakov

    (ARC Centre of Excellence in Population Ageing Research, UNSW Australia, Australia)

  • Jordan Louviere

    (University of South Australia, Australia)

  • Stephen Satchell

    (Trinity College, University of Cambridge, UK, and Discipline of Finance, The University of Sydney, Australia)

  • Susan Thorp

    (Discipline of Finance, The University of Sydney, Australia)

Abstract

Retirement income stream products are difficult for consumers to choose because of their high perceived risk, irreversibility, high expenditure, little opportunity for social learning and distant consequences. Prior literature is unclear about consumers’ use of heuristics in decumulation decisions or whether sociodemographics can help identify vulnerable consumers. In the context of Australia’s retirement income arrangements, we examine choices of life annuities and phased withdrawal products, and identify use of default options and the diversification (1/ n or 50:50) heuristic using a novel finite mixture modelling approach. The innovative feature of this approach is that it captures the very specific allocation pattern associated with choices based on deterministic decision rules, namely pronounced spikes at the locations of the particular heuristics with little mass in their surroundings. We show that more than 30% of decumulation choices rely on these two heuristics, and that cognitive and product knowledge limitations contribute to using such heuristics. The results have implications for public policy on decumulation of retirement savings, regulation of product disclosures and providers of annuity and phased withdrawal products. More generally, our model has the potential to provide better understanding of the use of heuristics in consumer decisions.

Suggested Citation

  • Hazel Bateman & Christine Eckert & Fedor Iskhakov & Jordan Louviere & Stephen Satchell & Susan Thorp, 2017. "Default and naive diversification heuristics in annuity choice," Australian Journal of Management, Australian School of Business, vol. 42(1), pages 32-57, February.
  • Handle: RePEc:sae:ausman:v:42:y:2017:i:1:p:32-57
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    Cited by:

    1. Michael P. Keane & Susan Thorp, 2016. "Complex Decision Making: The Roles of Cognitive Limitations, Cognitive Decline and Ageing," Economics Papers 2016-W10, Economics Group, Nuffield College, University of Oxford.
    2. Fedor Iskhakov & Susan Thorp & Hazel Bateman, 2015. "Optimal Annuity Purchases for Australian Retirees," The Economic Record, The Economic Society of Australia, vol. 91(293), pages 139-154, June.

    More about this item

    Keywords

    Annuity demand; choice heuristics; credence goods; retirement benefits;

    JEL classification:

    • D01 - Microeconomics - - General - - - Microeconomic Behavior: Underlying Principles
    • D14 - Microeconomics - - Household Behavior - - - Household Saving; Personal Finance
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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