Content uploaded by Carl M Hubbard
Author content
All content in this area was uploaded by Carl M Hubbard on Dec 18, 2014
Content may be subject to copyright.
A preview of the PDF is not available
Retirement Savings: Choosing a Withdrawal Rate That Is Sustainable
Abstract
Most investors who plan for retirement eventually confront the question of how much money they should plan to withdraw annually from their investment portfolio. The dilemma is that if they withdraw too much, they prematurely exhaust the portfolio, but if they withdraw too little, they unnecessarily lower their standard of living. Financial planners, counselors, analysts, and writers stand ready to advise investors on their dilemma, but their advice varies greatly, ranging from investing in common stocks and spending the dividend yield (roughly 3%), up to 7%, which allows for the invasion of principal. Highly risk-averse investors would likely gravitate toward the low end of the range because of their concerns about outliving their portfolio. Moreover, the larger the percentage of a retiree's total income provided by the portfolio, the more risk-averse the retiree is likely to be. In addition, some retirees wish to bequeath a large estate to their heirs, which again argues for a low withdrawal rate. In contrast, an aggressive investor without heirs might wish to plan a financial future based on a high withdrawal rate. Because of these highly personal behavioral traits, circumstances, and goals, no single withdrawal rate appears appropriate for every investor. What, then, can be done to help an investor in planning for a withdrawal rate? The word planning is emphasized because of the great uncertainties in the stock and bond markets. Mid-course corrections likely will be required, with the actual dollar amounts withdrawn adjusted downward or upward relative to the plan. The investor needs to keep in mind that selection of a withdrawal rate is not a matter of contract but rather a matter of planning. Thus, the question addressed here is: What is a reasonable withdrawal rate from a portfolio for purposes of planning retirement income? Or stated differently, what withdrawal rate is likely to be sustainable during a specified number of years? To help in the selection of a withdrawal rate, the following sections provide information on the historical success of various withdrawal rates from portfolios of stocks and bonds. If a withdrawal rate proves too high based on historical year-to-year returns, then it seems likely that the rate will not be sustainable during future periods. Conversely, historically sustainable withdrawal rates are more likely to have a high probability of success in the future.
... This formed the foundation upon which other researchers have built, by investigating various strategies and asset allocations under different economic conditions. Cooley, Hubbard and Walz (1998) conducted a study to determine the impact of various withdrawal rates for US retirees investing in living annuities, and the necessary asset allocation to support the withdrawal rates. The framework proposed by Cooley et al. (1998) introduced a criterion for assessing the success rate of a retirement portfolio, which is defined by the probability of a portfolio 'outliving' the retiree over a predetermined period, withdrawal rate and asset allocation (e.g. 30 years, 6% withdrawal rate and a portfolio consists of 75% equity and 25% bonds). ...
... Cooley, Hubbard and Walz (1998) conducted a study to determine the impact of various withdrawal rates for US retirees investing in living annuities, and the necessary asset allocation to support the withdrawal rates. The framework proposed by Cooley et al. (1998) introduced a criterion for assessing the success rate of a retirement portfolio, which is defined by the probability of a portfolio 'outliving' the retiree over a predetermined period, withdrawal rate and asset allocation (e.g. 30 years, 6% withdrawal rate and a portfolio consists of 75% equity and 25% bonds). ...
... The success rate metric was used to evaluate the performance of living annuities for a variety of portfolios and Cooley et al. (1998) found that an inflation-adjusted withdrawal rate of between 4% and 5% is 'safe' for portfolios consisting of at least 75% equity and 25% bonds over a 30-year period. By adjusting withdrawals for inflation, all withdrawals in the near term are substantially reduced to allow for larger withdrawals in the long term to protect a retiree from inflation. ...
Background: Many retirees in South Africa face the challenge of either outliving their retirement savings or living below their means. Studies suggest a ‘safe’ withdrawal rate of between 4% and 5%, which is below the average fund size-weighted drawdown rate of approximately 6.66%.Aim: To provide a scientific basis for the success rate of a ‘hybrid’ retirement strategy, whereby a retiree invests a proportion of their savings in a life annuity and the remaining proportion in a living annuity, to increase the success rate for South African retirees.Setting: Historical asset class returns (equities, bonds and inflation) for South Africa were sourced for the period 1900–2020.Method: Bootstrap sampling of historical asset returns was employed to simulate 10 000 random scenarios to investigate the success rate of various compositions of the ‘hybrid’ retirement strategy.Results: The success rate of all ‘hybrid’ portfolio compositions is significantly greater than the success rate of a pure living annuity when the withdrawal rate is less than 8%.Conclusion: In a South African context, a ‘hybrid’ retirement portfolio increases the probability of success for retirees withdrawing less than 8% from their portfolio – which constitutes approximately 50% of the current annuatised population – and may increase the inheritance of a retiree’s heir.Contribution: Where other studies have focussed solely on the success rate of a living annuity, we have shown that a ‘hybrid’ retirement strategy increases a South African retiree’s likelihood of retiring successfully when the withdrawal rate is less than 8%, which is approximately 50% of the annuatised population.
... Resumo O consistente aumento da longevidade e a diminuição da natalidade da população brasileira tem agravado a solvência financeira de fundos previdenciários, ameaçando a aposentadoria de grande maioria da população. Este trabalho se propõe, a partir da metodologia de ALM (Asset Liability Management) e programação estocástica, uma adaptação do modelo de Trinity (Cooley et al., 1998) para o mercado brasileiro. Este propõe o uso de um portfolio de investimentos pessoais como fonte de recursos na aposentadoria. ...
... Foi então que Cooley et al. (1998) publicaram a série de artigos que ficou conhecido como "Trinity Study", que apresentou inicialmente uma taxa de sucesso histórica de 95% para um horizonte de 30 anos, com uma taxa de retirada de 4% e uma alocação de 50% entre ações e títulos. Esta taxa de sucesso aumentou para 98% quando o percentual de ações foi aumentado para 75%. ...
... A estratégia de Pye (2000) acaba por aumentar a expectativa do portfólio fazendo o ajuste nas taxas de retiradas quando o mercado apresenta desempenho ruim. Scott et al. (2009) criticam a regra dos 4% de Cooley et al. (1998) e suas diversas variantes por estimularem um método de gastos constantes e não voláteis utilizando um método arriscado e de estratégia volátil de investimento. Demonstram pelos seus resultados que ou o aposentado não usufrui do portfólio superavitário, gerando excedentes não gastos, ou tende a ter um portfólio deficitário, pagando um preço alto por seguir a regra dos 4%. ...
O consistente aumento da longevidade e a diminuição da natalidade da população brasileira tem agravado a solvência financeira de fundos previdenciários, ameaçando a aposentadoria de grande maioria da população. Este trabalho se propõe, a partir da metodologia de ALM (Asset Liability Management) e programação estocástica, uma adaptação do modelo de Trinity (Cooley et al., 1998) para o mercado brasileiro. Este propõe o uso de um portfolio de investimentos pessoais como fonte de recursos na aposentadoria. O estudo inova com o uso de modelos econométricos e simulação para contornar o problema típico de baixa disponibilidade de dados para ativos financeiros locais. Os resultados mostram que uma taxa de retirada de 5% é sustentável e relativamente segura para saques anuais em uma carteira composta majoritariamente por ativos de renda fixa.
... Secondly, it may be the case that the 30-year time horizon for the retirement portfolio has been exceeded due to the rise in life expectancy but also because some individuals desire an early retirement (United Nations, 2019;Snyman et al., 2017). Besides, an individual has a 50% chance of living further than his actuarially determined life expectancy (Cooley et al., 1998). Thirdly, fees and taxes were not included when calculating returns, so that, considering the first example, the pensioner must keep in mind that part of the $100,000 withdrawal will be used to pay those expenses. ...
... n per cent below the real value of the first year's withdrawal. This strategy allows a lifestyle upgrade or downside according to the market performance. Bergen's recommendation is to be cautious when applying this strategy, advising pensioners to "be prepared to suffer cuts in real withdrawals during bad market conditions." (Bengen 2001, p. 119). Cooley et. al. (1998) also measured the impact of withdrawals on portfolio success considering annual withdrawal rates ranging from 3% to 12%, the periods were 15 years, 20 years, 25 years, and 30 years, The portfolio allocations studies were 100% stocks, 75% stocks/25% bonds, 50% stocks/50% bonds, 25% stocks/75% bonds, and100% bonds; taxes and fees were not ...
The purpose of the present study is to map out and extend knowledge on the conceptual territory of Financial Independence, Retire Early initiative (FIRE). This topic has produced increasing interest in the public, but it constitutes a relatively new research area for academics. In this study, we analyse the four pillars to achieve financial independence to be able to retire early: budgeting and expense control, saving and investing to earn passive income; creating additional income sources, and improving financial literacy. We also analyse the five main dimensions: FIRE as a self-improvement philosophy, as a self-help initiative, as part of the simple/ecological lifestyle, as a result of financialisation, and as a tool for financial literacy and well-being. The five dimensions we distinguish allow to approach FIRE initiative from different perspectives to have a more complete understanding, but at the same time, these dimensions unveil new approaches to research and understand the impact of FIRE in society.
... A historical analysis of the overlapping retirement experiences of individuals retiring between 1926 and 1980 led to the early consensus that a retiree with a diversified portfolio could make inflation-adjusted annual withdrawals equal to 4% of the initial portfolio balance with a low chance of depleting the retirement portfolio over a 30-year retirement horizon. This 4% rule refers to the popular withdrawal rate that originated from studies like Bierwirth (1994), Bengen (1994), and Cooley, Hubbard, and Walz (1998) that were meant to dispel the notion that higher withdrawal rates that matched the historic average real returns on a diversified portfolio (between 5% to 6%) were sustainable over the retirement horizon. ...
... Finally, our analysis also assumes that a retiree will select one of five fixed real withdrawal rates (2.5%, 3.25%, 4%, 4.75%, and 5.5%) based on their consumption needs. The use of a range of annual withdrawal rates, retirement planning horizons, and stock allocations, is consistent with Cooley et al. (1998). These three decisions about Retirement Horizon, Asset Allocation, and Withdrawal Rate result in 5 Â 3 Â 5 = 75 unique retirement scenarios. ...
The traditional model of retirement planning centers around the accumulation of a portfolio dur- ing the earning years followed by a drawdown from this portfolio after retirement. This drawdown is intended to support a desired retirement lifestyle, and central to a successful retirement is the sustain- ability of the retirement portfolio over the expected planning horizon. We define portfolio success to mean the ability of the retirement portfolio to sustain a desired retirement lifestyle over the desired planning horizon, and use simulations and logistic regressions to evaluate the impact of asset alloca- tion, the profile of portfolio returns, the withdrawal rate, and the length of the planning horizon on portfolio success. Our analysis shows that the likelihood of success is inversely related to withdrawal rate, retirement horizon, and portfolio risk increase, and directly related to portfolio return, allocation aggressiveness, and early experience. The analysis also indicates that portfolio success is highly sen- sitive to withdrawal rates, with conservative allocations exhibiting greater variation in portfolio out- comes and aggressive allocations providing more dependable portfolio outcomes for retirees who desire higher withdrawal rates.
... That study created a rule of thumb for retirees, known as the 4% rule. 4 Cooley et al. (1998) presents key insights in terms of withdrawal rates, analyzing different portfolio mixes with stocks and bonds for the U.S. market from 1926 to 1995, and annual withdrawal rates from 3% to 12%. The findings of this work emphasize that early retirees expecting long payout periods should opt for lower withdrawal rates to ensure sustainability. ...
This work compares sustainable cash withdrawal strategies for Brazilian REITs (Real Estate Investment Trusts) portfolios. It is assumed that cash withdrawals must be maintained for an indefinite period of time, while the capital invested in the REITs portfolio is adjusted for inflation. For simplicity, the capital is assumed to be invested in equal proportions in the REITs of the portfolio. The REITs market is relatively new in Brazil, and this study illustrates the performance of three strategies generating sustainable and steady cash flows for the investor based on a sample of Brazilian REITs. These REITs have publicly available data and have been operating continuously over the past 10 years. The findings of the study reveal that sustainable cash withdrawal rates are feasible for Brazilian REITs portfolios, however, a significant variability of cash withdrawal rates takes place among the individual portfolio REITs. The experimental results obtained for an equal-weight Brazilian REITs portfolio suggest that the three strategies investigated potentially can provide total annual returns that vary between 3.32\% and 3.38\% above the annual inflation and are sustainable during the period analyzed. This study also suggests that sustainable withdrawal for REITs portfolios is related to the cash flow risk faced by the individual REITs in the portfolio.
... This "4% rule" was later reinforced by a series of papers by Cooley et al. (1998Cooley et al. ( , 1999Cooley et al. ( , 2003Cooley et al. ( , 2011. These studies used a more exhaustive scope, and varying conditions and assumptions, to confirm that this strategy provides a high probability (85%-95%) that the retiree will not run out of funds ahead of time. ...
What has been the perfect withdrawal amount (PWA) from retirement savings accounts in long- term historical data? The PWA is that which, if taken out in the first year of retirement and used again every year adjusted by inflation, leaves exactly the desired final balance on the account. We present the formula for obtaining this measure and evaluate the values it has taken in the past under varying combi- nations of the relevant parameters. We find that safety-minded investors should enter retirement with a higher stock allocation than what is currently used in most investment funds designed to provide income during retirement.
Researchers have studied factors that influence the sustainability of retirement withdrawals (e.g., withdrawal rate, withdrawal rules, volatility, asset allocation, taxes, longevity) for 30 years. The frequency of withdrawal patterns (e.g., annual, quarterly, monthly) has escaped inquiry. This study uses Monte Carlo simulation to show that, despite intuitive reasons to believe that dividing retirement withdrawals into smaller amounts over more frequent intervals might control volatility or sequence of return risk, withdrawal frequency has no effect on retirement withdrawal sustainability. This result is robust to simulated markets characterized by: (1) a random walk, (2) simulated markets that are autocorrelated, (3) historical returns series randomly chosen from historical return records, and (4) historical returns in their original sequence. It also highlights factors (e.g., time in market, matching withdrawals to spending patterns, and maximizing optionality) that can enhance value or increase retiree utility.
Motivated by the recent market turbulence triggered by the COVID‐19 pandemic and the changing interest rate environment, we propose an improved investment strategy for extending retirement coverage in the pension decumulation stage. The newly proposed strategy with interest rate dependent volatility targets can significantly improve the durability of conventional retirement portfolios with constant risky and risk‐free asset allocations. This conclusion follows from our analysis in the simulated financial market with stochastic interest rate and stochastic volatility, based on the Hybrid Heston‐Vasicek model. Consequently, the proposed target volatility strategy could be a suitable option for more reliable retirement coverage after retirement.
ResearchGate has not been able to resolve any references for this publication.