June 12

Retirement Income Planning requires a different strategy


Published in the Bradenton Herald 06/16/20

Investing in retirement is different than while working.  This may seem like an obvious statement, but I’m surprised to see so many people and the financial media addressing this issue as if it’s the traditional wealth building formula and simply scaling back the amount of stock in a portfolio. 

Wealth building generally has a singular focus on maximizing return for a constant level of risk.  Risk is defined as volatility or the fluctuation of value the portfolio can be expected to experience as it pursues a targeted return.  Risk tolerance is used to adapt the portfolio to a volatility level that the owner can theoretically live with over the short run in pursuit of a longer-term return objective.   Rebalancing the portfolio periodically ensures the allocation is maintained to address both risk tolerance and the potential of taking advantage of market adjustments by selling high and buying low.

The wealth building formula is well tested and considered best practice amongst most prudent financial planning professionals.  The primary issue is that it’s not sufficient in retirement.  Wealth preservation strategies require a different methodology as the primary goal generally tends to be to provide an adequate, if not ample, income for your lifetime.  Adjusting the allocation to incorporate more bonds or annuities is not sufficiently addressing the risks associated with retirement.  That adjustment can do more harm than good to the longstanding needs of a portfolio.  A substantial amount of research has been done over the past 15 years as a result of the estimated 10,000 baby boomers retiring every day, and it generally states that a market portfolio with annual rebalancing performs poorly in retirement. 

Many strategies have tried to address the withdrawal issues over the past, with some showing more success than others.  A common problem is when an approach becomes mainstream in name, but the rules become glossed over.  A classic example is the 4% rule.  This framework has specific rules and assumptions that, when implemented correctly, can help address sequence risk: the risk of starting retirement at the top of a market and running out of money as a result of distributing out your money as your portfolio is shrinking at the same time.  A common misunderstanding here is the necessary stock allocation, which Bill Bengan, the creator, stated: “a stock allocation as close to 75% as possible and in no cases less than 50%.”  Details matter. 

Another popular rule that is well known but is flawed is the “Buckets of Money” approach, also known as the three-bucket strategy touted by Ray Lucia. Ray had his licenses revoked by the SEC in 2013 for unsubstantiated claims he made regarding this strategy.  Further research has shown that more is needed in a plan than simply bucketing to properly insulate stock volatility from withdrawals.  Retirement is not a time to rely on a good story. 

Retirement investing should answer several key questions, all focused on withdrawals.  What allocation is needed to most likely support sustainable withdrawals?  What assets should be sold each year to fund those withdrawals?  When and how should the portfolio be rebalanced to minimize the risk from withdrawals?  How can we hedge the portfolio from expected bear markets and unexpected dangers like coronavirus to protect withdrawals?  Lastly, how much income can we sustainably withdraw from the investment plan each year to protect from running out prematurely?

A good strategy should address these issues and be supported by a withdrawal policy statement (WPS) to maintain the integrity of the plan.  A WPS is similar to the Investment policy statements used in wealth creation, but its focus is on withdrawal decisions.  Having WPS helps to have a pre-agreed framework in place to deal with uncertainty and decision making.  It’s impossible to anticipate every possible market condition in advance (coronavirus) but having a policy in place provides an anchor point that can go a long way in helping alleviate a lot of stress knowing there are rules in place during times of disruption.

Gardner Sherrill, CFP, MBA, is a certified financial planner with Sherrill Wealth Management. To learn more visit sherrillwealth.com, a Bradenton wealth management firm specialized on living in retirement.

The opinions expressed in this material are not intended to provide specific advice or recommendations for any individual.

Securities and advisory services offered through LPL Financial a registered investment advisor. Member FINRA/SIPC.


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About the author

Gardner is a CERTIFIED FINANCIAL PLANNER and principal of Sherrill Wealth Management in Bradenton, Florida. He has spent 20+ years in the wealth management field helping families negotiate the various obstacles and opportunities that retirement provides them. Read More

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