By Jack Marrion
After 10 years, a 6 percent compound interest return is essentially equal to an 8 percent simple interest return.
What this means is if the only difference between two annuity lifetime withdrawal riders is that one guarantees 6 percent compounded income growth and the other guarantees 8 percent simple income growth that the annuity buyer should be indifferent between the two. However, most consumers would pick the 8 percent growth. One reason for this, according to a recent survey, is more than 80 percent of pre-retirees do not understand how compound interest works, but the larger reason is people succumb to vividness bias in making their decision and simply accept that the larger number must be better.
The idea behind vividness bias is people react strongly to louder, brighter, and bigger. Vividness can be used to emphasize strengths and play down weakness. What it means is making the positives of what is being offered sound as big as possible and making any negatives sound as small as possible.
As an example, suppose a consumer has $100,000 available to buy a fixed annuity and the annuity has a 10 percent premium bonus. The premium bonus could be described as a 10 percent enhancement to the annuity, or the representative could say, “I can get you TEN THOUSAND DOLLARS.” Which appeal sounds bigger?
Now, if that same annuity also had a surrender penalty of 10 percent, the producer probably would not want to say, “You know if you get out of this big boy in six months you are going to pay a $10,000 penalty.” Instead, the penalty should be referred to as a 10 percent penalty, or perhaps one could say the penalty is a tenth of the premium. A tenth sounds less vivid than $10,000.
Another aspect of vividness bias is we treat the future as a single event. For example, if the choice is between getting $1,000 today or $1,100 in a year the same people that choose the $1,000 today would select the $1,100 option if the choice was presented as getting $1,000 in seven years or $1,100 in eight years. Even though the difference is still one year we process seven or eight years as one entity known as “the future.” What this means is if the competition offers an annuity with a 4 percent rate for six years, but you can offer a 4.5 percent seven-year rate, our mind focuses on and chooses the higher rate and ignores the difference in time.
The other concern with the future is it is less vivid than the present, so the consequences of today’s decisions are often discounted. Bring the future into the present. Instead of talking about the generality of providing for retirement, ask the consumer about the specifics. How are you going to pay the mortgage when your salary goes away? How long will withdrawals from your IRA last if the next 10 years of the stock market are like the last? Where are the guaranteed dollars coming from to cover your essential needs in retirement? Asking how specific needs will be met brings these needs from the future into the present and makes them more vivid.
If you have ever held onto a car too long you have probably experienced the vividness bias of sunk cost. Last month you spent $800 fixing the transmission and now it looks like it will need a valve job for another $1,200. You know you should sell the car – but last month you put $800 into it. We see this now with investors holding onto investments that they’ve contributed to year after year that are worth less than they paid, but they don’t want to make a change because of what they’ve sunk in.
One reason we hold onto sunk cost decisions is we do not like admitting we made a bad choice in the first place – it is a form of regret. To protect egos show the consumer that circumstances have changed from when the original purchase was made so they can feel they made the right decisions previously and now it is time to make another right decision. “Based on the information you had you made the right decision back then, but times have changed and now you need to make the right decision today and buy the annuity.”
Finally, another way to use Vividness Bias is to create anecdotes or pictures. Many of us remember “red sky in morning, sailor take warning.” How about creating new sayings such as “annuities are safe, stocks cause waste” or “annuities are strong, banks are wrong.” These are silly, but they stick in the mind and may be recalled the next time a decision needs to be made. Or tell the story of how grandpa and grandma were able to keep their yellow polka-dot-painted house (vivid) because they bought an annuity. Make the positive features of annuities more vivid and your sales will increase.
Jack Marrion runs Advantage Compendium, a research consultancy to the annuity industry. His book for annuity producers “Change Buyer Behavior And Sell More Annuities” explains how consumers really make buying decision and steps the producer can take if they need to change the consumer’s mind.
© Entire contents copyright 2010 by InsuranceNewsNet.com, Inc. All rights reserved. No part of this article may be reprinted without the expressed written consent from InsuranceNewsNet.com.