My latest MoneySense Retired Money column looks at an academic paper written by two Canadian investment pros, which explains how retirees can boost retirement income by as much as 50%. You can find it by clicking on the highlighted headline here: How to boost your retirement income by 50%.
In the recent Fall issue of the Journal of Retirement, PUR Investing Inc. president and CEO Mark Yamada and colleague Ioulia Tretiakova, the firm’s director of quantitative strategies, published a paper titled “Autonomous Portfolio: A Decumulation Investment Strategy That Will Get You There.” Click here for a summary.
Yamada and Tretiakova observe that the combination of rising life expectancy, minuscule interest rates and declining availability of employer-sponsored Defined Benefit pension plans is making retirement an anxious proposition, especially for the Baby Boom generation that is even now starting to storm the barricades of Retirement: 10,000 Baby Boomers retire every day in the United States, and roughly 1,000 a day in Canada.
Little wonder that one study (Allianz 2010) found 61% of those aged between 45 and 75 were more afraid of running out of money than of dying! Sure, you can decide to work a little longer, which lets you save more and cuts down the years you’ll need to withdraw an income, but there’s a limit to how long you can work (or find willing employers or clients). Ultimately, health and time are not on your side!
The full article describes Yamada’s Decumulation Investment Strategy, which is designed to let retirees better manage both retirement income and the probability of ruin.
Dynamic Constant Risk & Spending Rules
Unfortunately, the investment industry relies on historical risk and return data to project future returns, somewhat like navigating a car by peering through its rear-view mirror. Yamada aims to keep portfolio risk constant by reducing portfolio risk when market volatility rises and to increase portfolio risk when volatility falls (hence the term DCR, which stands for Dynamic Constant Risk).60% equities is the maximum weight because they assume those over 65 won’t be comfortable with more stocks than that. But within that constraint, equity allocation is raised when the investor is behind the goal (the probability of ruin is higher), and conversely allocation to equities falls when the investor is on target.
Another key mechanism is variable spending rules that link spending (income generated by the portfolio) to the performance of the portfolio: boosting spending when markets are doing well, cutting it when markets underperform. They look at several “safe” withdrawal strategies, including a modified take on William Bengen’s famous 4% rule (See earlier Retired Money column on this), as well as variants on this approach.
The DCR strategy combined with a s “hybrid” spending rule provides the best result, an average of 51% more income than a Target Date Fund approach, and an average of 40% more income than a conservative 60/40 diversified fund over the same range of ruin probabilities, and spending that does not decline even when the market does.