Life-Cycle Planning for Investments
You’ve probably heard the standard advice. When you’re young, put your money in stocks. As you get older, shift to bonds. Simple. Clean. Fits on a napkin.
But here’s the thing. Real life is not a napkin. Chapter 9 of “Behavioral Finance for Private Banking” shows why life-cycle planning is much messier than the textbook version, and why our own brains make it even harder.
Two Real Stories: Opposite Mistakes
The chapter starts with two amazing case studies. Both involve sudden wealth. Both end badly, but in completely opposite ways.
Widow Kassel: Too Much Discipline
Widow Kassel died in 2007 at age 92. She left 30 million euros to the University of Frankfurt. Back in 1975, she inherited about 2 million euros in German stocks. She never touched them. She lived only on dividends in a small rented apartment.
Her portfolio grew like crazy over 32 years. Great for the university that got her money. But was it great for her?
Here’s the problem. She had a mental rule: “live on dividends, never touch the capital.” Because of that rule, she could have actually lived better if she had invested in bonds instead. Bond interest payments during that period were higher than stock dividends. She would have had more cash to spend every year.
So stocks made her final wealth huge, but her daily life was poorer than it needed to be. A financial advisor who understood behavioral finance could have helped her find a better balance. Instead, her mental accounting rule kept her living modestly while sitting on millions.
Werner Bruni: Zero Discipline
Now the opposite story. Werner Bruni became Switzerland’s first lotto millionaire in 1979. He won about 1.69 million CHF. After taxes, he had around 729,000 CHF.
No bank gave him useful long-term advice. He was so excited he told everyone about his win. Suddenly he had many “friends.” He spent everything on houses, cars, holidays, entertainment. Soon he was broke. He ended up living on social benefits.
But he kept playing his “lucky numbers.” He learned one lesson, just the wrong one.
The Golden Middle Way
The authors point out that both Kassel and Bruni had the same problem from opposite directions. One refused to spend any capital. The other spent all of it immediately. The right answer was somewhere in between.
This is what life-cycle planning tries to solve. How do you spread your spending across your whole life in a way that actually makes sense?
Consumption Smoothing: Why It Matters
The core idea is called consumption smoothing. Your income changes a lot over your life. It’s low when you’re young, peaks in middle age, and drops after retirement. But you don’t want your lifestyle to follow that same rollercoaster.
The book gives a simple example. Think of two brothers. One is a tennis pro who earns big money early but fades fast. The other is a corporate manager who earns most of his money later in life. If both want to live at a steady level, the tennis pro should save heavily while young, and the manager should borrow against future earnings to live better today.
Why do people prefer smooth consumption? Because of diminishing returns. Your first $1,000 per month covers food and shelter. Essential. Your tenth $1,000 per month buys luxury stuff. Nice, but not life-changing. So having $5,000 every month feels way better than having $10,000 one month and $0 the next.
The Life-Cycle Hypothesis
This idea was formalized in the 1950s and 60s. The basic version says people save during their working years so they can keep spending after they retire. Nothing controversial there.
But here’s what actually happens in real life. Retirees often cut their spending way below what they could afford. They don’t sell their assets fast enough. They hoard money they’ll never use. This contradicts the simple theory.
Also, the standard advice (more stocks when young, more bonds when old) doesn’t come from the basic theory at all. The original model says you should pick one allocation and stick with it forever. The age-based shift requires additional assumptions to justify.
Why People Fail at Life-Cycle Planning
This is where behavioral finance enters the picture. The authors identify several psychological traps.
Mental Accounting
People put their money into mental buckets: current income, current assets, and future income. And they treat each bucket differently. You’re most likely to spend from current income. Least likely to touch future income. Current assets are somewhere in between.
This is why a bonus feels different from your regular salary, even if you expected it. A lump sum gets put in a different mental bucket. People save bonuses more and spend salaries more, even when the rational thing would be to treat all money the same.
Hyperbolic Discounting: The “I’ll Start Tomorrow” Problem
This is a big one. People discount the near future much more heavily than the distant future.
Here’s the classic example. Would you take one apple today or two apples tomorrow? Most people take one apple today. But would you take one apple in exactly one year, or two apples in one year plus one day? Now most people say they’ll wait the extra day.
Same one-day wait. But when it’s right now versus tomorrow, your brain screams “take it now!” When it’s far in the future, you can think rationally.
This is called time-inconsistent preferences. And it absolutely destroys retirement planning. Today you plan to start saving next month. Next month you plan to start saving the month after. You keep pushing it forward because the present always feels more urgent.
Habit Formation
Once you get used to a certain lifestyle, it becomes your new baseline. A pay raise feels amazing for a few months. Then it’s just normal. You adjust. And now any drop from that level feels like a real loss.
This makes it even harder to cut spending for savings. You’re not just giving up luxury. You’re experiencing what feels like a loss compared to what you’re used to.
Save More Tomorrow: A Clever Solution
The chapter ends with one of the best ideas in behavioral finance. Richard Thaler and Shlomo Benartzi created a program called Save More Tomorrow (SMarT).
The concept is simple but brilliant. Instead of asking people to save more right now (which triggers loss aversion and present bias), you ask them to commit to saving more in the future, specifically every time they get a raise.
Why does this work?
- Hyperbolic discounting works in your favor. Committing to something in the future is easy because your brain doesn’t feel the pain yet.
- Loss aversion is avoided. Your take-home pay never actually goes down. The extra savings come only from raises.
- Inertia helps you. Once you’re in the program, the status quo bias keeps you there. Most people never opt out.
The results were remarkable. Saving rates tripled. Most people who joined stayed in the program.
My Take
This chapter connects a lot of dots from earlier in the book. Mental accounting, loss aversion, hyperbolic discounting, habit formation. All these biases we learned about in isolation now combine into one real-world problem: how do you plan your financial life from age 20 to age 80?
The honest answer is that most people can’t do it well on their own. Not because they’re stupid, but because the brain fights against long-term planning at every step. The present always feels more real than the future.
The good news is that smart product design can help. The SMarT program proves that if you work with human psychology instead of against it, you can get dramatically better outcomes. You don’t need to fix people. You need to fix the system around them.
That’s probably the most useful lesson in the whole book so far.