Financial Competence, Risk Presentation and Retirement Portfolio Preferences

Abstract

We investigate risk presentations in retirement savings decisions using a discrete choice experiment where subjects choose between a bank account, a growth account and a 50:50 account. Using nine standard formats for investment risk, we analyze responses to risk per se and to format changes. Switching between formats changes individuals' investment decisions, given constant risk and return. Choices made under graphical and textual presentations contrast markedly, as do choices based on formats that emphasize event frequencies rather than return ranges or values at risk. Less numerate individuals tend to be more susceptible to format changes, but higher-than-average personal financial competence does not eliminate presentation effects. Respondents with weak basic financial literacy are less sensitive to changes in underlying risk, regardless of presentation format. Variations in demographics and expectations can impact account choice probabilities at least as much as variation in the risk/return trade-off. Policy-makers and industry need to coordinate over financial product disclosures and initiatives for improving financial competence.