News, Analysis, and Research for the Retirement Planning Industry

The Only Thing We Have To Fear is…Math

In Uncategorized on 21 January 2011 at 11:23 am

As 1099 season is nearly upon us, the title of Jack Hough’s recent SmartMoney column – Tax System: Too Complex To Be Constitutional? – caught my eye. The prospect of preparing for my annual pilgrimage to my account’s office by organizing all of my forms, receipts, and notes begins to fill me with dread about the same time the clean up crews descend upon Times Square. If Jack had found a new angle, I was all ears.

Alas, he did not, although the title argument (and the reasons why it won’t work) are entertaining reading. (He also cites the court cases that killed the “taxes are voluntary” and “compliance to tax law is a form of slavery” arguments so hold on to your W-2s.)

As interesting as the history of attempted tax avoidance was, what struck me most was this sentence:

“Department of Education studies have shown that nearly two-thirds of respondents struggle to make sense of a bus schedule, and more than half can’t add two items on a lunch menu and calculate a 10% tip.”

If people are struggling with bus schedules, how will they fair with an annuity prospectus? If respondents can’t figure out a 10% tip on an $8 burger and $3 fries, are they really going to appreciate the hypothetical investment and return scenarios in their 401(k) package? (Lest you think the Department of Education findings are relevant only those people who are regulars at the DMV, see Figure 1 in my study that shows the degree of financial concept (un)familiarity among highly educated DC plan participants.)

When employees are confronted with investment planning decisions, they are confronted with some amount of mathematics, and America suffers from collective math anxiety. Math anxiety is quite real; there are about 142,000 scholarly articles on the topic and Texas State University’s Counseling Center devotes a web page to the affliction on its site. Combine the anxiety that accompanies trying to understand the quantitative aspects of investment concepts with the anxiety that comes with evaluating one’s finances and planning for a time when they will no longer draw a paycheck, and there is little wonder why most Americans avoid the exercise as long as possible.

What can the industry do to address this? Ultimately, we need to become active collaborators with primary and secondary educators so that all future investors are better equipped to be active participants in their financial planning.

But we need to help their parents and grandparents today. We can do that through simplification and changing our approach to investor education. Products, particularly insurance products, can no longer be “by actuaries, for actuaries”, we need to simplify the language we use to describe products and simplify the way they work.

Much is made about increasing investor education, but I would argue we do not need more education; we need new approaches to education. A new web page that explains the importance of asset allocation is not likely to any more effective than the old brochure that explained the importance of asset allocation. Many people for whom the language of finance is a foreign tongue find experiential learning tools that allow them to experiment and “see” financial principles in action to be more effective than traditional didactic approaches.

The goal is not to make everyone a finance expert, but when theater majors can walk boldly into their financial advisors’ offices and express concern about addressing longevity risk, we will have succeeded.

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