Arun Muralidhar is on a mission to solve the retirement crisis. In his just-published book, 50 States of Gray, Muralidhar discusses what Nobel prize winner and MIT professor Robert Merton describes as "innovative proposals for pension design and a new pension bond."
In an interview, Muralidhar, the founder of Mcube Investment Technologies and AlphaEngine Global Investment Solutions, says the impetus for his latest book stems from his and Nobel Prize winner Franco Modigliani's book about reforming pensions and Social Security.
In the wake of that book, several states approached Muralidhar for help designing what have become known as state-run or state-sponsored retirement plans for workers who don't have employer-sponsored retirement plans.
"As I looked at what the states were doing, I realized that there was probably a need for a book that took other states through the process in a more robust manner and offered some innovative solutions as well," said Muralidhar during a recent interview with Retirement Daily. "The states are becoming lab for innovation," he said.
According to Muralidhar, those saving and investing for and living in retirement face an "insurmountable task." They don't know how much to save and how to invest, nor do they know how to create retirement-income plans.
Among other things, he notes that many workers, and especially low-income workers in the private sector, don't have access to employer-sponsored retirement plans and, as a result, aren't able to save for retirement. 'That's one problem that that the states are trying to address, which is to provide access to a pension plan," he said.
And among the challenges that will lead to a crisis," according to Muralidhar, are the following: the products offered today don't ensure retirement security and 50% of the global population, if not more, is financially unsophisticated.
And so, in his book, he set out to provide a solution focused on benefit goals that are expressed in terms of retirement income, that are optimally designed in way that are easy to use and low in cost, and that are tailored for all states and countries.
But before providing that solution, Muralidhar set the stage by reviewing what he calls the three shaky pillars of the current pension system, including Social Security, defined-benefit plans and defined-contribution plans.
"Regardless of how people look at the problem, the three pillars upon which people were expecting to retire are all sort of very shaky and crumbling and there's a lot of merit in what the states are trying to do to give people the ability to start saving for themselves and take care of themselves in retirement as opposed to depending on the state or a company to look after them," he said.
Defined-Contribution Plans Aren't Enough
According to Muralidhar, defined-contribution plan participants are likely looking for the very same thing that defined-benefit plans provided: guaranteed income indexed for inflation for life. But that's not what defined-contribution plans provide - but they should, he said.
Part of the problem has to do with the funds used in the defined-contribution plans, specifically target-date funds (TDFs), a qualified default investment alternative, or QDIA.
"All target-date funds are doing is switching people from stocks to bonds as they age," he said. "But the challenge with that is that there is absolutely no guarantee of the outcome you'll get if you're invested in a target-date fund."
What's more, the TDF fund you buy from one company could be completely different from the one you buy from another company, both of which will give you highly random outcomes defined either as wealth or income at retirement, he said. Just because people are the same age doesn't mean they should have the same portfolio.
Ultimately, he says, it's harder to determine how much wealth you'll need for retirement than how much income you might need. Thus, the capital asset pricing model, or CAPM, doesn't work for retirement.
What does work instead is something Muralidhar calls the relative asset pricing model, or RAPM. "Your investment decisions aren't made to maximize wealth, they are made so that you can achieve this goal that you've specified" of how much income you want in retirement," he said. "This little tweak of changing it from maximizing wealth to guaranteeing a retirement income has a severe impact on portfolio choices. And the current range of products that are available to people are extremely risky from this perspective of retirement income and the few products that allow you to lock in that income like annuities are costly, expensive, illiquid, and have credit risk."
And that means that defined-contribution plan participants are unnecessarily being subject to many risks, all being put into choices that are expensive, complex and illiquid, he said.
"We need to come up with a better solution," Muralidhar said.
The solution, according to Muralidhar, are bonds called Bonds for Financial Security (BFFS) or Standard-of-Living-indexed Forward-starting Income-only Securities or (SeLFIES). Government agencies, such as the U.S. Treasury, can issue these bonds to improve retirement security and fund infrastructure.
The idea behind this new bond is people want certainty about what one gets -- in terms of income -- and when they get it. "It's the exact cash flows that a well-designed bond could have," he said. "Why doesn't somebody issue a bond that has these characteristics? It doesn't pay me anything until I hit retirement and then once I hit retirement it gives me predictable cash flow."
The bond, according to Muralidhar, would pay income -- $5 real from each SeLFIES that you buy -- every year from age 65 to 85 or life expectancy. "Essentially it's an annuity in a bond," he says. "Unless we have this instrument there is going to be a retirement crisis in the defined contribution world."
So, if you wanted $50,000 in income at retirement you would purchase 10,000 SeLFIES ($50,000/$5=10,000).
To be fair, pre-retirees and retirees could certainly create a Treasury-Inflation Protected Securities (TIPS) bond ladder to achieve some of what Muralidhar has described. But, Muralidhar says, it's hard to do, and it's complex, and it's illiquid, and it's expensive.
What's more, TIPS only give you protection against inflation. "It doesn't give you protection against standard of living changes," he said. "And so that's where we were arguing that if people are trying to create a particular cash flow profile, why have this complex engineering when there is an incentive for the government to issue the original instrument and therefore, why not issue SeLFIES."
Of course, there are hurdles to getting SeLFIES implemented one of which is the status quo.
"I think sadly, you know, it always takes a crisis before people move," said Muralidhar, who noted that the natural stakeholders include state-sponsored retirement plans, corporate pension plans and financial institutions.
During the interview, Muralidhar also suggested that the U.S. could address its retirement crisis by looking to what the U.K. and Australia have done to address retirement security for their workers. What his book tried to do, he said, was highlight some of these experiences around the world and suggest that U.S. states don't have to build something from scratch. "They can copy what has worked very well," he said.
In the absence of SeLFIES being available as a savings vehicle for savers, Muralidhar says it's important to demystify saving for retirement. Plus, he advises writing lawmakers and regulators to change what's considered a "safe harbor" investment inside retirement accounts.
In short, he wants to try to improve regulations "so that we protect the investors from bad outcomes or potentially enriching the asset management business and Wall Street."
Muralidhar also expressed hope that the latest Social Security and Medicare trustees' reports might spark efforts to reform Social Security. "I would hope that there is action now and there is action soon because why make our kids pay the price for our inactivity as well on this topic?" he asked.
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