With emotions often preventing people from acting in their own interest, nudges that lever behavioural finance theory to account for them can generate better retirement outcomes.
Those were among the key messages delivered by Punam Keller, an associate dean at the Tuck School of Business in Hanover, N.H., to participants at Benefits Canada’s Defined Contribution Plan Summit in February.
While defined contribution plans offer many advantages, not all employees recognize them, a fact often blamed on inadequate financial literacy or the difficulty of calculating the consequences of long-term financial choices. According to Keller, however, emotions are the more likely culprits.
“Our ability to learn, integrate [and] apply is driven by how we feel, as much as by what we know,” said Keller at the Montreal event. “Current nudges do not effectively manage emotion.”
One good way to nudge those who have made poor financial choices in the past is by using regret aversion, according to Keller. She recommends two tools, enhanced active choice and declining financial incentives, to increase plan participation and engagement and reduce leakage. Highlighting the consequences of not taking advantage of the plans offered is one technique. For example, in one study cited by Keller, test participants selected the more desirable option between opting in and opting out when the latter option highlighted the costs of inaction.
Effective use of terminology also plays a role. For example, characterizing the savings (which imply sacrifice) that employees invest in their pension plans as future income (which implies positive benefits) can change the dynamic of how targeted audiences respond, Keller suggested.
Communicating in ways target groups are comfortable with also affects outcomes. For example, Keller suggested that the low uptake of pension options among younger people may reflect the lack of available apps. She also highlighted the advantages of a strategy of declining financial incentives, which nudges participants to act quickly. She cited a promotion that offered a $10 gift card in exchange for attending a seminar on asset allocation. The incentive declined to just $5 after a certain date, she noted.
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