Aging is never too fun to think about, but we all eventually see the physical signs: Slower marathon times, changing body shapes, and graying hair are, after all, hard not to notice.
What we don’t recognize as well is cognitive decline, and as a result, we don’t do as good a job preparing for it. Changes in memory, numeracy, and judgment are gradual for many – though unfortunately, some will experience significant impairment in the form of dementia. But changes are a natural part of aging. The point here is not to depress you. It’s to suggest that we prepare early in order to better steward our finances – and other aspects of well-being – into advanced age.
On a positive note, getting older isn’t all bad. We get better on the cognitive front in some ways as we age because experience and accumulated wisdom greatly strengthen our overall mental capacities. According to David Laibson, a Harvard economics professor, there are two kinds of intelligence. One is fluid intelligence, which enables us to look at and solve novel problems we’ve never seen before. The bad news is that this peaks in one’s 20s, which is why many mathematicians and physicists do their most inventive work while they’re young. The good news is that there is also crystallized intelligence, which enables us to use accumulated knowledge and experience to solve problems that are familiar to us — and that keeps growing with time.
In investing, being good at familiar tasks serves you well. If you’ve been reading annual reports and calculating financial ratios for years, you get better and better at it over time. As a result, most research says the sweet spot for investing is when people are in their 50s, when good investment decision-making peaks. Eventually, however, the decline in “fluid intelligence” will start to dominate overall function (see chart). Laibson says it’s not as if you fall off a cliff after your 50s, but over the next decades, financial decision-making gradually gets harder.
The elephant in the room is dementia — mental decline severe enough to interfere with daily life. The chance of having dementia in one’s 60s is very small, but afterwards the chance doubles every five years. By one’s 80s, the likelihood of dementia is 20%. In addition, there’s a condition called “cognitive impairment not dementia” (CIND), which is impairment significant enough to suggest you shouldn’t be making financial decisions alone. Another 30% of those in their 80s experience this.
Unfortunately, many with dementia continue to manage their own finances. The University of Michigan Health and Retirement Study found that 60% of those with clinical dementia still managed their own money, and an additional 10% did so but acknowledged difficulty. How does this happen?
One reason is overconfidence. Michael Finke, a retirement planning professor at Texas Tech found that even as skills declined with age, confidence in one’s decision-making ability actually ticked up. And Professor Laibson has noted two prevalent behavioral flaws: One is that we think dementia happens to other people but not us because we’re special or different, even though the odds are 30% to 70% that we’ll have to confront impairment. The other mistake is that people believe they’ll somehow be able to recognize when significant decline happens. But as Laibson says, you don’t just wake up one day and think, “You know what? I’m losing a lot of cognitive function.” It just doesn’t happen.
To prepare, Laibson suggests setting up five legal documents early (see table). We also need to face reality and prepare psychologically. That means talking to family members and organizing assets to minimize the risk of errors and fraud. For example, one thing we can do is stick to investments that are priced on public exchanges, like stocks, bonds, and funds, and avoid private investments where pricing isn’t clear.
There’s no need to get too depressed about aging. After all, we are living longer, higher quality lives in more physical comfort than ever before. But it’s wise to prepare for changes in our mental abilities well before they happen.