Monday, September 29, 2014

Don't Be Worried and Confused About Making Your Money Last in Retirement

Last year, Merrill Lynch and Age Wave released a report titled, "Family & Retirement: The Elephant in the Room."  Figure 16 of this report listed the results of a survey describing the greatest worries different generations had about living a long life.  The top two worries cited by both the "Silent Generation" and the "Baby Boomer Generation" were "running out of money to live comfortably" and "being a burden on my family" (which is arguably partially related to the worry of running out of money).   In fact, these two concerns were cited by more than 60% of the survey respondents. 

The September issue of the AARP Bulletin contained an article about the five steps to a happy retirement, including Step Number 5--Make Your Money Last by Jane Bryant Quinn.  I have to say that this article was unfortunately one of the most confusing articles from Ms. Quinn that I have read.  She initially indicates that the 4% Rule is the gold standard for financial planners.  According to Ms. Quinn, "If you stick to that rule and are properly invested, your money should last for at least 30 years and, in most cases, much longer. You should be financially safe."  She then asks a number of experts what they think and, not surprisingly, the safe withdrawal rates vary from 2.5% to 5.5%.  She closes by advising retirees to "prepare to be nimble", "stay the course" and "begin again with the money you have left if you sell when the market falls and miss the upturn."  With advice like this, no wonder many retirees are confused and worried about running out of money or becoming a burden on their families.   

One of the big problems with the 4% Rule and other "safe" withdrawal strategies is that after the first year, you have no real way of knowing whether you are still "on track."  In addition, these approaches are based on assumptions that may not apply to your specific situation.  To be less confused and worried about overspending (or underspending) your accumulated savings, you should use the Actuarial Approach recommended in this website.

The Actuarial Approach automatically adjusts for actual experience as it emerges and annually lets you know whether you can increase your spending or whether you should decrease your spending based on your personal situation and objectives.

Wednesday, September 24, 2014

4% Constant Withdrawal Approach Leaves Much to be Desired (and Probably Too Much to Heirs at Death)

In his September 23 post, Neal Frankle touts the benefits of the 4% Constant Withdrawal Approach (together with increased investment in equities) as a way to easily and significantly increase income in retirement.

To use the favorite phrase of perhaps the most famous actuary of the 20th Century, Robert J. Myers, I am constrained to disagree.  I outline the shortcomings of the 4% Constant Withdrawal Approach in my February, 2014 article
(published in Volume 13 Issue 2 of the Journal of Personal Finance, p. 51).  In summary, the method: 
  • Doesn't coordinate well with other sources of retirement income,
  • Doesn't smooth results from year to year,
  • Doesn't attempt to provide constant real dollar income from year to year, and
  • Produces far too low withdrawals in later years of retirement, resulting in under spending and larger than intended amounts left to heirs at death.
As an example of the last bullet, under the recommended assumptions for the Actuarial Approach (and assuming no other retirement income), the withdrawal rate for a 30-year expected payout period is 4.34%, for a 20-year period is 5.97% and for a 10-year period is 10.89%.  Therefore, a constant 4% withdrawal approach would not be expected to significantly boost retirement income as a retiree ages when compared with withdrawals expected under the Actuarial Approach.

Tuesday, September 9, 2014

Complimentary Posts From Steve Vernon

It is always nice to get a compliment--even if it comes from a friend.  Out of the blue last week, my friend, Steve Vernon, Research Scholar for the Stanford Center on Longevity and blogger for CBS MoneyWatch, decided to say a couple of nice things in his blog about our website and the Actuarial Approach for determining a spending budget.  His posts are A simple tool for figuring retirement income and How much can I spend in retirement?

As usual, Steve does an excellent job of discussing his topic in a straight-forward and understandable (i.e., non-actuarial) manner.  I just have just a couple of "clarifying" comments:

Steve indicates that you can input the amount of Social Security in the spreadsheet tool.  This isn't the case.  The "Excluding Social Security V 2.0" Excel spreadsheet is designed to produce a number that you can add to any inflation-indexed income you receive, such as Social Security, to determine your spending budget.

While Steve discusses the need to periodically adjust withdrawals to reflect events that have occurred (which I believe is more important than the sophistication level of the spending tool employed), he does not discuss the smoothing algorithm I recommend in this website.  I believe that it is important to smooth the gains and losses that will occur in the future in a reasonable manner.  And I believe the smoothing algorithm we recommend is an important part of the Actuarial Approach.  

Lastly, although it makes for a good story, I did not develop the Actuarial Approach and website to figure out my own retirement spending budget (although I certainly do use it).   As a defined benefit pension actuary, I became concerned about how individuals will have to "self-insure" their retirement in a defined contribution (401(k)) world over ten years ago while I was still working.  At that time, I pitched my ideas to Dallas Salisbury and others at the Employee Benefit Research Institute (EBRI), AARP and other organizations representing retirees as well as my own professional actuarial organizations.  I thought that my approach could help retirees better manage the risks involved in determining how much they could afford to spend each year.  Apparently, these organizations disagreed.  When I did receive feedback, I was told that my approach was either too complicated or not complicated enough.  This feedback was a source of frustration for me.  When I was close to retiring, my friend and co-worker at Towers Watson, Kin Chan, offered to help me set up this website to help me communicate the approach.  It is an offer that he now, I'm sure, regrets as I send him new thoughts to post every few days.