Retirement Planning From a Total Wealth Perspective

Increasingly, Americans are worrying about retirement, particularly those in the 45- to 60-year age group. With our general population ageing, the uneasiness surrounding adequate preparations for our “golden years” and avoidance of being a burden on society and our children has intensified.   Investing Essentials has taken several steps to help you evaluate where you stand and the steps you need to take to better prepare for your long-term future.

Total Wealth: Human Capital vs Financial Capital

First, an investor needs to understand what constitutes wealth. An individual’s total wealth comprises two components: human capital and financial capital1. Human capital is the present value of an investor’s labor income. In other words, it’s the result of our ability to generate income through our jobs. Financial capital is the value of our financial assets, such as our savings, house, and other investments.

The two are inversely related: when we are young, our human capital is at its peak. At this stage in life, we are energetic, willing to put in long hours, and tackle the world. But as time passes, our ability and interest in working longer hours or accepting more challenging assignments begin to wane, and our human capital diminishes.

Our financial assets, however, are at their lowest in our early years. We have student debt, a mortgage, and bills to pay, but as time passes, we not only start to pay those off, we begin to accumulate savings, invest in long-term assets, and build our retirement nest egg.

As the chart below shows, human capital peaks early while financial capital grows, and the two combined equal a person’s total wealth.

Planning for Retirement

We are all at various stages in life, but consider four general phases: Early Savers, Mid-Life Accumulators, Nearing Retirement, and In Retirement.

Early Savers. As the name implies, Early Savers are those investors who are just getting started and are at a point where human capital is high and financial capital is low. The most significant risk facing investors at this stage is mortality risk, which is the potential for dying prematurely. The loss of human life can have a devastating impact on the family’s economic well-being, and life insurance may be the best protection for the investor and the household at this stage in life.

Mid-Life Accumulators.  Investors are at an early accumulation phase where human capital is still above financial capital and expenses outweigh savings, but income growth is accelerating. The most significant risk facing investors at this stage is spending risk, which is the risk of not saving enough for retirement. This risk occurs for several reasons, including lacking the discipline to save adequately or not having the ability to save (it isn’t easy to invest when daily living expenses are barely being met).

Investment strategies become a bit complex at this stage. Still, options to consider include buying insurance to protect against mortality risk and contributing to a retirement savings plan, such as a 401(k) or IRA, to counter spending risk.

 Nearing Retirement. This is a late accumulation stage, but now financial capital is starting to surpass human capital and savings are beginning to materialize. Investors at this stage face investment risk – the investor’s asset portfolio’s failure to achieve sufficient returns to meet the investment objectives.

All too often, investors don’t adequately assess their risk tolerance, that is, their ability and willingness to accept risk. If risk tolerance is too low, returns will be stable but could end up being inadequate; if it’s too high, returns may experience volatility which could erode an investor’s asset base. But individuals who invest in diversified portfolios can reduce the volatility of their returns while potentially realizing higher returns, thereby assuaging market risk.

 In Retirement. Human capital is at its lowest in this stage of life, and hopefully, the investor has sufficient financial capital to support their lifestyle. Unfortunately, if they haven’t planned adequately, it isn’t easy to revert to human capital, a condition that is most troubling to investors.

Also, transferring wealth to heirs or philanthropy, for those fortunate to be in such a position, is a key consideration at this stage.

Investors In Retirement face longevity risk, the risk of outliving one’s assets. A 65-year old individual can expect to live an additional 19.5 years, according to the National Center for Health Statistics2, which is longer than most individuals anticipate, particularly from a financial preparedness perspective.

Investors can mitigate longevity risk by assuming more risk in their portfolio, thereby creating a sufficient cushion between the required and realized portfolio return. Alternatively, the risk can be hedged using lifetime annuity insurance products.

Aggregating Human Capital and Financial Capital

The four stages identified and their risks will apply differently to different investors under differing situations. For example, an individual who inherits significant assets at a young age or suffers a financial setback late in life will have to reevaluate their position.

However, there are risks at all stages in life that can affect an investor’s retirement, and proper planning, particularly at an early stage, can set an investor for success.


  • Chen, P., Ibbotson, R., Milevsky, M., and Zhu, K. (2006). Human Capital, Asset Allocation, and Insurance. Financial Analysts Journal, 62(1), 97-109.
  • US Department of Health and Human Services, Centers for Disease Control and Prevention, National Center for Health Statistics, Health, United States, 2018