The death of a breadwinner in a family is financially catastrophic. At the age most people start families, the price of insuring against it is very small. Taking out life assurance should be a no-brainer, but yet we know that many, many people who should do, don’t. To give a sense of scale, the UK life industry regularly talks about the ‘protection gap’ (the shortfall in protection held by the public) and in 2017 it stood at £2.4 trillion.

The relatively recent science of Behavioural Economics can help us individually, and as an industry, understand our lack of success in getting people to act. It can help us understand the very real barriers that stop people doing something that, to us, seems essential. Furthermore, when you study the core topics in the field, you begin to wonder if some of the strategies we use to help people protect themselves better are actually counter-productive. Most helpfully, an understanding of these behavioural drivers can give us guidelines on how to position protection more successfully, leading to better protected families, and more successful meetings.

Understanding the Barriers

The thing is, humans are not purely rational when it comes to financial decisions. Behavioural economics is the study of the influences that lead to poor financial decision making, and the more you read about the various concepts from the field (some listed below), the more you wonder how we actually manage to sell a policy at all.

• According to Optimism bias, people tend to overestimate the probability of positive events and underestimate the probability of negative events. The consequences for those selling life assurance are obvious.
• Present bias is the phenomenon of people over favouring outcomes now to future outcomes. This is a barrier to pensions provision where the benefits are far away. You can imagine the bigger barrier for protection where the future benefits may never arise.
• Myopic procrastination talks about people’s tendency to put off complex decisions and choosing life cover (at least as we have designed it) is highly complex.
• The Money Illusion explains individuals’ overestimation of what a lump sum can actually provide and helps explain why people often choose less cover than they need.

In short, it tells us that it is not enough to know the technical details of needs and products to be successful in successfully engaging consumers in protection products. You need to understand the human condition.  This isn’t news to seasoned financial advisers (and they certainly don’t need to hear it from an actuary!) but when you look more deeply into the topic you realise collectively as an industry we haven’t fully got it.

Are we Making Things Worse?

For example, is the UK industry wise to talk about a £2.4 trillion protection gap? Another core behavioural economics concept, Social proofing, refers to the influence of others when we are making a choice that we are uncertain about. When I was younger one of the most prevalent lines on TV advertising came from a cat food manufacturer – “8 out of 10 cat owners said their cats preferred it”. This powerful use of the concept stands in stark contrast to the way our industry uses it.  I personally contributed to countless press releases that included statistics like “only 2 in 10 have Critical Illness” and looking back on this now, I think they were unhelpful. Although well intentioned, it is entirely possible that the individual uninsured person read these articles and heard the message “if you’re not covered, don’t worry about it, you’re not alone”.

I’ve often thought that the problems caused by the money illusion (i.e. people buying insufficient cover because they overestimate how long a lump sum will last) are self-inflicted by the industry.  The key need met by family life protection is the replacement of the income of the heads of the household in the event of premature death. The traditional life assurance solution we offer is a lump sum which, in theory, if invested at a specific rate, should allow the survivors draw a replacement income, increasing with inflation, until the life assured would have retired.  That’s a complex calculation and, even when carried out correctly, creates a lump sum so large that clients often don’t believe it.

Another behavioural economics concept that contributes to the poor choice of amount covered is the Anchoring effect. According to this theory, when it comes to complex decisions (like how much cover should I have) people are prone to making their decision on simpler concepts (like how much am I prepared to pay). This is understandable as people are only prepared to spend so much on cover. However, when I see ads like “Cover for as little as €15 per month” I often wonder that if we the industry lead on price over the amount of cover required, what chance have we of helping people put the right amount in place?

Using Behavioural Economics to Our (and Our Clients’) Advantage

By gaining a better understanding of how people make financial decisions, and in particular the flaws in thinking related to life assurance, we can increase our chances of helping people protect themselves financially. In 2015 a team at Boston College produced a helpful paper entitled ‘Overcoming Barriers to Life Insurance Coverage: A Behavioural Approach” in which they tried to understand how people approached the topic and tested a number of strategies to help ensure better decision making. Their study had two stages:

1. They carried out in-depth interviews with people in order to understand their thought processes in deciding whether or not to buy life assurance and how much they bought if they did. They analysed the results to identify the behavioural barriers to people putting appropriate cover levels in place.

2. The team then designed a number of approaches that they thought might overcome these barriers and they tested the approaches on subsets of a large group of research subjects and compared the results.

I’ll share some of the results below along with practices from other sources, but one thing struck me from the in-depth interviews. The team observed that there is no need to convince people that they need life insurance. They know they need it but just can’t seem to get around to it. Having previously squeamishly (and weakly) starting countless information leaflets with apologetic phrases like “Nobody likes to mention the unmentionable” or “We don’t like to talk about death, but….” this is a really useful insight. If I had fully appreciated that, I would have started material with much stronger, to-the-point phrases like “If you’re looking to protect your family from the financial effects of your death, then start here”

Using Behavioural Economics to Move People to Act

Rather than talking about protection gaps and people who don’t have cover, it is much more powerful to talk instead about people who have adequate protection - and there are many of them. Consider state employees, or people who work for large employers like banks and life assurance companies. These people typically benefit from generous protection benefits as part of their remuneration. Highlighting to the self-employed that they have gaps where others don’t is a far more powerful use of social proofing.

Another concept, the endowment effect refers to our tendency to value things we own more than those we don’t. An often quoted example of this is the economist who buys a case of Bordeaux wine for €10 a bottle and a short number of years later refuses an offer of €200 a bottle. He says that he will drink it at special occasions but at the same time says that he would never spend more than €20 on a bottle of wine. Based on rational thinking he should sell the wine but once again, we’re not rational.

The endowment can be used to very good effect in a holistic advice process. If, as part of the financial planning, you first focus on goals like children’s education, retiring comfortably and other lifestyle ambitions, then the protection topic can be introduced as a key part of the strategy to ensure that the income that provides for those goals is robust to health challenges. In this way you subtly change protection from something that you don’t have which you need, to something that protects what you already have.

Connecting protection with goals in this way also helps overcome the barrier of optimism bias. It is very difficult to get people to connect with an isolated bad news story of risk. Integrating protection as a core part of the strategy to secure positive goals is more effective.

A number of years ago the company I worked with tried a more direct use of the endowment effect. In this approach we empowered bank branch staff to give free accidental death policies to people that they engaged in conversations on protection. The policies had a sum assured of €200,000, payable on accidental death only and lasted for three months. The key aim of the policy was 1) we gave the clients cover while they had a chance to put more substantial cover in place and 2) at the end of the three months, we would have a chance to call clients who hadn’t acted to say “your cover is now ending, would you like us to help you put something longer lasting in place”. The aim was to change the conversation from “do you want to buy protection” to “do you want to maintain protection”.

Overcoming procrastination requires you to make the process more straightforward but also give the client a sense of immediate benefit from the action of putting protection in place. Again, you need to be aware of the influence of present bias (i.e. talking about what might happen in the future may not be powerful enough). Also, the long-term sense of ‘peace of mind’ that is often used might just be a little bit ‘wishy-washy’ for want of a better word. In the Graduate Diploma we discuss an interesting case study of a German financial advice firm that focused on the immediate and powerful benefit of getting something done. It taps into the sense that people know that they should have something in place and therefore there is an immediate relief of removing this niggle - “Let’s get your protection need sorted. If feels good to get it out of the way.”

Helping Clients Choose the Right Amount of Cover

As mentioned, I think that the problems related to the money illusion arise because we traditionally matched an income need with a lump sum benefit. It’s for this reason that I’m a firm believer in income-based life cover. If you match an income need with an income benefit then you remove the money illusion barrier altogether and typically results in clients choosing higher, more appropriate levels of cover.

If, however, a lump sum benefit is the preferred route, the team at Boston College found that providing clients with:

 a) checklists setting out the ongoing expenses that the family would need to cover; and

b) annuity information that explained how much income a lump sum could provide,

typically led to an increase in the level of cover chosen.

Focusing on income also helps counter the anchoring effect (clients focusing on the price they are prepared to pay rather than the benefit they need). If a client is focused on a fixed price, then it is not that powerful to talk about €500,000 versus €700,000 (say). They’re both large amounts of money and both tick the box of having protection in place. Keeping the conversation rooted in the amount of income that a specific benefit would provide allows the client stay much more focused on the appropriate amount of cover as it allows him or her compare it to current income and expenses.

Making the Cost Easier to Take

Finally, there have been some interesting experiments to overcome the barrier of present bias (people’s reluctance to give up something now for future or possible benefits). For example, in the USA, behavioural economists developed the ‘Save More Tomorrow’ approach where members of pension schemes are encouraged to commit future pay increases to their pensions rather than being asked to give up something now. The approach gradually leads to significantly higher uptake and contribution levels. With this in mind, perhaps the time to recommend protection is when new money becomes available (pay increases, start of children’s allowance) or when expenses drop (loans coming to an end, re-arrangement of finances).

Further Reading

This is just a summary of some of the insights to be found in behavioural economics. There are a number of very readable books on the topic by authors such as Thaler, Cialdini and Kahneman. It’s well worth the study for anyone who wants to enhance their protection offering.