Tag Archives: richard thaler

Time for a ‘Nudge’ on Long-Term Care

For years, the go-to approach with clients for discussing long-term care insurance (LTCi) solutions has been from an educational perspective. The idea was that if we could just get a prospective customer to lower his guard long enough to understand the strong statistical rationale or risk in favor of LTCi, the decision would become clear to him, and coverage would be purchased.

As logical as all that sounds, maybe our logic is flawed? The reality we’re facing in the LTCi industry is that this approach is likely not the most effective way to lead Americans into action on LTCi. What we’ve experienced is that, despite our best efforts and compelling factual arguments in favor of LTCi, adoption rates have consistently hovered around 8%, which corresponds with the percentage of the population that is predisposed to long-term planning by nature.

So why isn’t the traditional approach to planning for LTCi working for the other 92%? The answer, it turns out, might be found in some fascinating recent research into “behavioral economics,” which considers economic decision making from a psychological perspective. Best-selling books such as Nudge (Richard Thaler and Cass Sunstein) and Thinking Fast and Slow (Daniel Kahneman) have explored the ramifications of this fascinating topic.

The idea is that people really don’t act rationally, as classical economics assumes. Instead, people are motivated to act based on their emotions and impulses. Moreover, the choices we make are very dependent on how options are presented to us.

See also: Can Long-Term Care Insurance Survive?

Companies and governments have recently used the findings of behavioral economics to try and “nudge” people to take actions. For example, more companies now auto-enroll employees in 401(k) plans and make them opt-out if they don’t want to join. The result has been a big increase in 401(k) participation. Another finding—that too many choices lead to inaction—has led to a narrowing of investment options. Similarly, “default” choices, such as target date funds, are now part of many 401(k) plans.

Here are six ways in which the findings of behavioral economics can help improve your closing rate when doing LTCi planning with clients:

  1. Keeping choices as simple as possible. As an adviser, you may think your job is to give a possible buyer multiple options for planning for care, such as spread sheeting several insurance carriers or comparing standalone and linked products. However, the reality is that consumers don’t want this—they want a recommendation with just a few choices. Share your due diligence, but limit the information to what you consider the best options for them to consider.
  2. Focus on the possible gain LTC will provide instead of the possible loss. Research has shown that, just like gamblers, we all want to win, and we don’t like to think about losing. People who are considering LTCi don’t want to think about loss when planning for care, such as how their retirement savings may be depleted. Instead, focus on the fact that a small LTCi premium gives the policyholder the possibility of a big payoff in benefits. For example, a $2,000 annual premium could result in $300,000 to pay for high-quality care at home.
  3. Use stories, not statistics! Statistics are important for discovering trends and insights, but they are awful when used for discussing LTC planning. People are way too optimistic about their future and think they will be on the winning side of a statistic. Focusing on stories and experience that motivate prospects is much better than using statistics that can destroy empathy when talking about planning for LTC.
  4. Focus on “now” benefits, not the future.  It’s incredibly difficult for people to imagine aging and needing help. Instead, focus on the “now” benefits of LTCi.  The now benefits are more difficult to quantify, but they can include peace of mind, good health underwriting and locking into a lower premium before a birthday.
  5. Help guide heuristics (rules of thumb). For analytical advisers, it’s tempting to use tools such as cost-of-care surveys that project the cost of care 40 years in the future when designing plans. A better approach is to “follow the crowd” and recommend benefits similar to what policyholders are actually buying. You may think people want customized solutions, but most would feel more comfortable picking options similar to other buyers. Recommend they do what most people are doing.
  6. “Nudge” a choice.  When people have to make a decision, such as actively signing off on the fact they have been offered LTCi but declined, they will be more likely to buy. LTC planning is easy to delay, and people need motivations to keep them from delaying the decision forever.

See also: Long Term Care Insurance: Group plan vs Individual

Behavioral economics is a controversial topic, but we think it offers an important critique of the way we have traditionally approached LTCi planning with prospective clients. Employing some of its findings might move us beyond the 8% threshold of highly motivated long-term planners to help the remaining 92% of the population engage in meaningful consideration of their long-term care needs.

How Customers Really Think About Insurance

Since presenting on the topic and writing an article for the Chartered Insurance Institute’s’ Journal, I’ve continued to hear a demand for more understanding of Behavioral Economics (BE). It appears the majority of insurers have delegated the challenge of understanding behavioral economics to their risk and pricing teams, and few are engaging actively with their marketing and customer insight teams.

I think this is a missed opportunity, not just for better compliance with Financial Conduct Authority (FCA) expectations, but also for the commercial gains to be made from better-designed communications.

That said, I suspect the majority of you have at least heard of BE. In recent years, the success of popular books on the subject has ensured plenty of media coverage and social media debate on implications and appropriateness. Easy-to-read books, as introductions to the subject, have included “Nudge” by Richard Thaler and Cass Sunstein. More comprehensive and challenging is a classic text like“Thinking Fast and Slow” by Daniel Kahnemann. Both are well worth reading, and there are now many others to choose from.

What makes this subject of greater relevance to the financial services industry is the influence of behavioral economics on the thinking of both the UK government and the FCA. Government policy is being influenced by the work of its “nudge unit.” Meanwhile, the FCA has said that it expects companies to consider how their customers actually make decisions.

So what exactly does behavioral economics teach us with regard to how people make decisions? There are numerous experts and many slightly different approaches, but I believe the categorization proposed by the FCA is a good place to start. In its first occasional paper on the subject, the FCA proposed the following list of 10 behavioral biases:

  1. Present bias. This is an overvaluing of the present compared with the future. This might be manifest in choices that look like immediate gratification or in ones that look like procrastination. An insurance example might be customers only considering premium cost now, not a full comparison of the cover provided for the future.
  2. Reference dependence and loss aversion. Loss aversion can be seen in tests where people will consistently seek to avoid a loss that is certain, even if having to take a gamble or pay more to do so. Reference dependence is the assessing gains or losses in comparison with a subjective reference point. Retailers use this a lot. I’m sure you’ve experienced supermarket product pricing manipulated to make a relatively expensive choice look more mid-market by comparing that choice with higher, “dummy prices.” For an insurance example: Customers might make different decisions if just shown the costs of monthly or annual premiums on a renewal letter, as opposed to seeing a comparison with last year’s premium, as well.
  3. Regret and other emotions. Here we are dealing with irrational actions to avoid experiencing such negative emotions in the future. This might involve procrastinating on important decisions, like being checked out by a doctor, or willingness to pay for products that avoid decision making (like premium products promising to cover everything you need). A worrying example for insurers is consumers’ unwillingness to engage with a need for life insurance, because of their discomfort with imagining the death of a loved one.
  4. Overconfidence. That is, overconfidence about the likelihood of future events or our abilities, or rationalizing past events (with the benefit of hindsight). For instance, almost all drivers believe they are above average. Another example is what’s called the planning fallacy, where most people consistently underestimate how long it will take them to get something done. Within insurance customers, we can see this bias at work in consistent under-estimating of cover needed or assuming an ability to self-insure or financially cope without protection.
  5. Over-extrapolation. Here we are dealing with making predictions on the basis of too few data points. A classic example is in the behavior of most investors. Most people will underestimate the level of uncertainty and buy or sell shares on the basis of insufficient data to make a robust forecast. One could say that the same behavior is also exhibited in consumers’ use of insurance comparison sites. Undue importance can be given to simply the cheapest price or known brands, to shortcut decision-making time, rather than make a rational comparison of cover, service, recommendations, etc.
  6. Projection bias. This is the expectation that your current feelings, attitudes and preferences will continue into the future. So, you underestimate the potential for change. A classic example of this is the effect of the weather on sales of houses and cars. The feel of a house, or looks of a car, on a sunny day is projected into the future and bought without sufficient investigation — leading to higher sales on sunny days. An insurance example could be seen in the low engagement of the working population with critical illness cover or health insurance, because of a projection of current good health into the future.
  7. Mental accounting and narrow framing. This is the behavior whereby people treat money or assets differently according to the purpose assigned to them, and consider such decisions in isolation rather than look at the overall impact. For instance, people not paying off debts while putting funds into savings accounts with lower interest rates. An insurance example is perhaps the estimates made of sum insured, which are more driven by impact on regular premium and budget allocated, rather than purchases made and value of possessions.
  8. Framing, salience and limited attention. This means reacting differently to essentially the same choice, because it is presented differently, partly because of limited attention to all but the most salient points. For example, shoppers are more likely to buy meat labelled 75% lean than meat labeled 25% fat. For an insurance example, consider the different responses to financial statements when the same information is simply presented in different ways. Simpler presentation that causes the most important information to be salient can change engagement and action.
  9. Decision-making “rules of thumb,” or heuristics. This is the tendency to simplify complex decisions by choosing more familiar, status quo or less ambitious questions instead. An example is where interviewers will choose candidates most like known colleagues or be swayed by stereotypes. For insurance, one sees customers simplifying many decisions in this way, for instance: “Is my pension fund performing well, and do I need to increase my contributions to achieve my goal?” can be simplified to: “Is anything wrong, and do they say I have to do anything now?”
  10. Persuasion and social influence. This behavior includes being persuaded because a seller is likable or comes across as a good person. There are examples of people being unduly swayed by apparent social norms, like increases in recycling because local government shares the percentage of others in your area who are recycling. For insurance, the change in consumers assuming that they “should” use comparison sites to shop around, because of an impression that everyone does so now, has been influenced by consistent advertising on TV and other media. It is interesting to see this reflected in customers who make a buying decision first, then find some evidence on a comparison site to justify the choice afterward.

There is much more I could share on BE, but this is a long enough post that I hope you can judge your interest in this topic. Do comment if you’d like to see more on this topic, especially how to apply this theory in practice.