Volatility and Sustainable Withdrawals - Amazon S3€¦ · It should be noted that the sustainable...

Volatility and Sustainable Withdrawals One of a series of papers on the Confident Retirement® approach

By Craig Brimhall, CFP®, CRPC®, CFS®

Vice President - Wealth Strategies

Since Bill Bengen’s ground-breaking study of just over 20 years ago,

there have been many studies on the issue of paying out sustainable

income from a diversified portfolio in retirement.* There have been

many variations on this theme, and sometimes the “sustainable

distribution” numbers move a little higher or a little lower (see side bar).

A good example of when this may happen is to incorporate the current

environment of record low interest rates with the high likelihood of rates

going up and bond values declining. Most historical illustrations, and

even Monte Carlo asset return assumptions, show bonds with positive

returns (in the neighborhood of 5%, for example), but there is a distinct

possibility such returns may not materialize in a rising rate environment.

(Incidentally, that has led to the argument that a bond ladder with

individual bonds with specific bond maturities is a better fit for this

potentially rising interest rate environment in 2015 and forward. Of

course, credit risk is still an issue.)

But, the gold standard of a 4% withdrawal from the total portfolio at

retirement, with inflation adjustments to the spending, still holds water,

with the important exception that careful review and cash flow

management every year is a must. Few things work on a “set-it-and-

forget-it” basis. Drawing down a portfolio is definitely not one of them.

We will look at an overview of the various studies through the

years, and update you on the current thinking with interviews

with some of the thought leaders.

*Bill Bengen as rocket scientist: “It Was 20 Years Ago Today”, Jonathan

Guyton, Journal of Financial Planning, October 2014, volume 27, No. 10;

pages 24-25.

Sustainable withdrawal numbers may move a bit higher if time frames are shorter (e.g. shorter life expectancies), higher returns are anticipated or modelled, there is an ability to “flex” spending based on portfolio performance, or not expecting steady inflation adjustments in spending each year.

Withdrawal amounts may show lower numbers if time frames are lengthened, lower returns on assets are anticipated or assumed, or cost-of-living adjustments are built into the assumptions.

EXECUTIVE SUMMARY • Even after 20+ years of research, the old “4% sustainable

withdrawal rate from a diversified portfolio over 30 years” still

stands the test of time, however, with some important revisions.

• Some studies suggest that, due to historically low interest rates

right now, a 2.8% withdrawal rate may be more appropriate.

• Others suggest that as long as there is “adaptive adjusting” to

payouts and not automatic COLAs (cost of living adjustments), that

number may be as high as 5%. (“Adaptive” or “dynamic” adjusting

is simply adjusting the payout based on portfolio performance from

time to time, thereby preventing the portfolio from too severe of a

drawdown in bad market years.)

• And taking longevity into consideration, older retirees with a shorter

time frame can see their “sustainable” number higher than 5%.

• There appears to be universal agreement that there is no logical

“set-it-and-forget-it” payout methodology, even at lower rates of

distribution. Whereas a low rate of distribution (3% or less) may be

sustainable with a COLA every year, the chance of underspending

and leaving a very large “terminal value” or large estate then

appears.

• The “right” combination, although this is definitely a decision that each investor needs to make, is probably a high enough rate of

distribution to be sustainable, with adaptive adjusting every year (or as needed) to keep overall portfolio balances appropriate, and aiming to whatever final estate amount the investor desires to

leave to others.

VOLATILITY MATTERS . . . . AS DOES TIMING It should be noted that the sustainable withdrawal rates are based on

“worse-case scenarios”, so it is a way to “stress test” your portfolio for

survivability. Before Monte Carlo simulations, most tests were done

using the historical record. Retiring before a bear market, or series of

bad years (end of 1999 for example…see illustration below) looks

totally different than retiring right before bull markets (the end of 1987,

as an example). The first set of examples assumes an all stock portfolio

of $1 million invested in the S&P 500 Index.

Looking at the charts below…retiree “A” retired year end of 1999 and

after he did so, the S&P 500 Total Return gave him a NEGATIVE .95%

per year for the next decade, or cumulative -9.10%.

Retiree “B” chose 12/31/1987 as her retirement date (right after

“Black Monday” occurrence in October), and she saw the S&P return

18.04% per year for the next decade, or a cumulative 425.67%!!

This is the same index (not identical investments since the stocks in the

index do change), and a similar time period; it just shows how

unpredictable the returns over time can be. (Illustrations run on

Morningstar Advisor Workstation.)

ILLUSTRATION #1: TIMING MATTERS – RETIREE “A”

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Incidentally, retiree “A” (above) was probably feeling good about

retirement at first because the mood of the country was almost

euphoric (the “happy days are here again” feeling of the technology

boom). But then came a recession. Actual returns were probably

shockingly disappointing.

And retiree “B” (below) might have been a bit apprehensive since the

country was just starting to climb out of the biggest one-day decline in

the history of the stock market (October 19, 1987…the Dow Jones

Industrial Averages shed 508 points or 22.61% in one day), and a

recession was headed our way in the summer of 1990, not to be over

until the spring of 1991. However, actual returns were surprisingly

good.

Feelings may not be reality.

ILLUSTRATION #1: RETIREE “B”

Whereas the timing of one’s retirement may, or may not, be voluntary,

one thing we can control is our asset mix.

Will being an aggressive investor save the day?

It has been said that “high risk means high returns.” That is a myth

since the first half of the sentence does not assure the second half.

High risk means high volatility and higher probability of uncertainty. If

you hit it right, you can reap great rewards, but if not, it may spell ruin.

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ASSET MIX MATTERS Let’s look at another scenario similar to illustration #1 above, but now

looking at it from the perspective of two retirees during the SAME time

period, but with different asset mixes.

The charts below demonstrate the relative stability of a diversified

portfolio versus the all stock portfolio.

ILLUSTRATION #2; chart 1: 12/31/1999—12/31/2014: all stocks

(S&P 500 TR…Total Return); with a 4% payout (based on the beginning

balance at retirement) and a 2% COLA.

ILLUSTRATION #2; chart 2: 12/31/1999—12/31/2014: 50% stocks

(S&P 500 TR) and 50% bonds (Barclay’s Aggregate) also with a 4%

withdrawal rate and a 2% COLA. The portfolio rebalances if the 50/50

ratio is out of balance by 10% or more.

Here is a period of 15 years when assumptions about returns (stocks

should outperform bonds over the long term) did not hold up. And the

concern about volatility with stocks is showing up in spades. Although

both portfolios are still alive (not depleted), the “balanced” portfolio still

has close to its original value, whereas the “all stocks” portfolio is down

by 50%.

ILLUSTRATION #2; chart 1: ASSET MIX AND WITHDRAWAL RATES MATTER TO PORTFOLIO SURVIVABILITY ALL STOCK PORTFOLIO (S&P 500 TR) 12/31/1999-12/31/2014

All stock portfolio has not run out of money (yet), but the account has lost half of its value. Would you have “stayed the course”?

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ILLUSTRATION #2; chart 2

Bad timing and a volatile portfolio can work against a retiree and lead to

a depletion of assets.

Many of the tests that have been run are either projections of future

returns, or “rolling periods” of actual past returns, or other similar

methodology. They almost all universally show that income should be

sustainable at about the 4% distribution level (assuming 30 years of

retirement and roughly a 50/50 stock/bond asset mix based on the

portfolio balance at the time of retirement).* However, of the many

factors that may affect the outcome, the two biggest appear to be: (1)

the portfolio asset allocation (and whether it rebalances every year, or

not), and (2) the assumed increase or adjustment in withdrawals taken

in subsequent years (the “inflation adjustment” or COLA…cost of living

adjustment…makes a big difference to survivability of a portfolio). Built

in to the assumption of any asset allocation are assumptions about

volatility. Even a higher-returning asset (in the long run) can cause

problems in the shorter-term if volatility is high. Downside protection is

a major concern for most retirees.

(It should be noted that the 4% rule has been challenged in light of the

historically low interest rates and relatively high valuation for stocks at

this particular point in time, in the summer of 2015.)

* one notable exception being a paper titled: “Low Bond Yields and Safe Portfolio Withdrawal Rates” by Blanchett, Finke, and Pfau

A 50/50 mix of stocks and bonds paid out the same income as the all stock portfolio but has close to the same beginning balance it started with 15 years prior. During this time period, volatility was lower and returns were higher.

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“SEQUENCE OF RETURNS” RISK Although much has been written about “sequence of returns” risk, it

may be news to many investors that the order of returns is one of the

most critical factors in how long money may last in the distribution

phase of life. It is also a factor during accumulation if an investor is

dollar-cost-averaging, but, it makes absolutely no difference in the

resulting ending balances if you have invested a lump sum.

Consider this interesting math:

Take a lump sum and apply the returns in following order, two

scenarios:

(1) +20%, +10%, 5%, -10%, and -15%

As an example, in this first scenario, a $250,000 lump sum

ends up with $265,073, or a compounded annual growth

rate (CAGR) of 1.177%

Now reverse the order of returns:

(2) -15%, -10%, 5%, +10%, and +20%

$250,000 in this second scenario ends up at $265,073;

CAGR = 1.177%

However, if you were to take the numbers above and start to withdraw

money from a portfolio with those returns, the first scenario will survive

a 4% annual distribution ($1,000,000 taking out $40,000 at the

beginning of each year (no COLA); those returns will end the 5th year

with a balance of $885,805. This is also its lowest balance; the high

balance was over $1.2 million).

In the second scenario, identical returns but in the opposite order, the

investment survives, but the final balance at the end of year 5 is

$811,742 after falling to a low balance of $691,320. Not only is the

final number $74,063 lower, but would someone stick with a plan that

was down $308,680 at one point (-30+%)?

This is another major factor in the discussion of a portfolio’s

“survivability.” From a mathematical standpoint, it may survive, but

from an investor behavioral standpoint, the ship may have been

abandoned along the way (usually at the low point).

When we look at a series of returns historically, we have the benefit of knowing the end result. An investor does not have that luxury since returns are in the future. So to personalize it a bit more: would you

stay with a portfolio and payout plan if you were down 30% or more?

Risk tolerance is that ability to hang tight in tough times.

AN EXAMPLE OF SEQUENCE OF RETURNS RISK IN A RETIREMENT SITUATION We will look at two potential retirees in the following illustration: they

have identical portfolios (a 50/50 mix of stocks and bonds) and

identical withdrawal rates. The ONLY difference in the two scenarios is

the start date of distribution. Since the first retiree, John, was lucky and

retired at the beginning of a long bull market, we decided to “break the

rule” and have withdrawals way above the accepted or prudent amount

of 4%...we went for 6% AND a 4% COLA. The point will be, as you will

see…hit the “retirement day lottery” right, and you could go well above what might be considered “safe” or prudent. Be unlucky enough to

retire right before a bear market, well…you’ll see what happens in the

illustration.

What makes these illustrations even more remarkable is that John has

had 9 more years of distributions (and COLA raises) and is still going

strong. Bob had 9 fewer years in his retirement and is just about ready

to run out of money (and his portfolio has paid out only a little more

than one half of John’s).

Keep in mind that John and Bob suffered through the same bad years.

However, for John, they happened later in retirement so did not affect

him as much. Bad market years early in retirement are why portfolios

should be “stress tested” for prudent withdrawal rates. If an investor is

lucky enough to hit the jackpot and start withdrawals in a year like a

1990, then more money should be available. If an investor draws the

short straw and enters retirement into a bear market, then starting with

a low withdrawal rate (until markets recover), or “adaptively adjusting”

withdrawals based on portfolio performance, seem to be the wise ways

to help make the money last.

JOHN: Start date: 12/31/1990 Withdrawal rate: 6% COLA (cost of living adjustment) 4% Beginning balance: $1 million Total withdrawals: $2,498,754 Ending balance on 02/28/2015: $1.75 million Average annual return: 9.97%

BOB: Start date: 12/31/1999 Withdrawal rate: 6% COLA (cost of living adjustment) 4% Beginning balance: $1 million Total withdrawals: $1,309,472 Ending balance on 02/28/2015: $51,982 Average annual return: 3.80%

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ILLUSTRATION #3: PUTTING IT TOGETHER: JOHN AND BOB…AND THE LUCK OF THE DRAW; JOHN’S SCENARIO

John starts withdrawals 12/31/1990 at 6% of the beginning balance plus 4% cost of living adjustments each year. He got lucky as the markets entered a long bull market.

12/31/1990 to 02/28/2015

Not knowing what type of market environment you may face as a retiree has been called: “the retirement day lottery.” Your ticket may have you retiring right before a raging bull market (like John) or your retirement day might just have you right at the beginning of a bad bear (like Bob). Or, of course, you may experience something in between. It’s because it is a big unknown that we would suggest you start with a prudent withdrawal rate and be willing to make adaptive adjustments to that income each year, depending on portfolio performance and circumstances.

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ILLUSTRATION #3: PUTTING IT TOGETHER: JOHN AND BOB…AND THE LUCK OF THE DRAW; BOB’S SCENARIO

BACK TESTING VS FORWARD-LOOKING “Back testing” is using the historical record to test how investments or

portfolios may have done during a specific period of time. This is what

is used in each of the illustrations used so far in this paper. One of the

weaknesses of using the historical record is that is it highly unlikely, if

not impossible, that history will literally repeat itself with the same or

similar events, in the same order and magnitude as it has in the past.

But as Mark Twain put it: “History doesn’t repeat itself, but it does

rhyme.” And that is why it may be useful to at least look at past years to

see how portfolios performed. They may not repeat exactly, but the

“rhyme” or rhythm of the economy and market cycles do have a

somewhat familiar pattern. The historical record can give us a good

glimpse of what might have happened to a retirement portfolio if a

person had been retired and lived through a particular period.

If you look at how a portfolio may have done in a period that had very

negative markets right after retirement, that is what we referred to as

stress testing a retirement portfolio. Of course, if you plan for the worst

and hope for best, and if you retire into more of a bull market than a

bear, everything may turn out better than expected, and you may have

nice “raises” along the way. What can we surmise about the future?

That is where the models called “Monte Carlo simulations” come into

play. They attempt to be forward looking. Certain assumptions are

made about asset performance, inflation, interest rates, economic and

market conditions and a host of factors, and then a portfolio scenario is

run though thousands of possible outcomes. The results create a

“best” outcome, a “worst” outcome” and many scenarios in between

(and, of course, an average of all of the scenarios). This modelling is

where the “probability of success” comes from. A retirement portfolio

with a stipulated payout might have an 80% “probability of success and

a 20% probability of failure.” Of all of the stochastic (Monte Carlo)

models we examined, most show that a 4% withdrawal, with some

variation on a COLA adjustment each year, is survivable for a 30 year

retirement. HOWEVER, when adjustments are made to the modelling

assumptions, such as the current historically low interest rates and high

equity P/E ratios (thereby lowering return assumptions for both stocks

and bonds), the 4% withdrawal may be too high.

“Success” by many of the models means that you have at least one

dollar left at the end of the time period chosen to run the simulation

(e.g. 30 years). Some people would not consider it a “success” if they

ended their life with a dollar, while others might say that was perfect

planning. “Failure” doesn’t necessarily mean you would run out of

money. It simply means that IF the investments performed the way the

modelling shows and IF no course corrections were made along the

way, the retiree might run out of money. And, there are lots of things

that can be done year by year to prevent the disaster from happening.

It is important to note that while the simulations are “scientific

guesswork” and the probabilities are mathematically sound, they are

still assumptions, and tiny tweaks in the assumptions (such as asset

returns, inflation, etc.) can quickly change the outcomes. The

calculations may be objective, but the inputs that make up those

calculations, unlike physics, are subjective.

Bob starts withdrawals 12/31/1999 at 6% of the beginning balance plus 4% COLA each year. He was not so lucky as the market entered a bear market.

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We make those comments only to emphasize the point that

summarizes this paper, and the findings and interviews you are about

to read: the biggest factors to having a portfolio last a lifetime, and longer, is the withdrawal or spending rate and the ability to make changes in spending as the portfolio values change. The total return on

the portfolio is very important, and volatility control is a big issue, and

the “sequence of returns” risk must be managed, but the biggest factor

the consumer directly controls is the spending level being taken from

the portfolio.

But the issue of the timing of your retirement distributions, as shown in

the illustration of John and Bob, can greatly affect the amount of

withdrawals that will be sustainable. A declining portfolio while

withdrawing funds accelerates the drawdown. This is especially

problematic during the early years of retirement. If the decline occurs

later in retirement when the portfolio presumably has grown sufficiently,

it is less critical for a couple of reasons: (1) hopefully a higher balance

when compared to the income that needs to be withdrawn, and (2) a

shorter time frame left in which the withdrawals must be made.

THE EFFECT OF VOLATILITY ON THE MATH OF SUSTAINABLE WITHDRAWAL RATES A higher returning portfolio (in the long run) might end up also being a

higher volatility portfolio; but that does not mean it will last longer. Two

reasons: (1) high volatility may mean that withdrawals that occur in

really bad market years may draw down the portfolio enough that

recovery becomes difficult and that is why you may see the “probability

of success” lower for all equity portfolios than for more balanced

portfolios; (2) behavioral finance reasons – it may be very difficult for

investors to stay the course if they see their portfolios down a

significant amount. Therefore, seeking to find a lower volatility portfolio

with consistency may end up being more appropriate and lasting longer

than the “home run” portfolio with higher volatility. As it has wisely

been said of baseball players and investment portfolios:

It is interesting to note that automatic dollar-cost-averaging into a highly volatile portfolio actually can work very well for an accumulator, but doing the same during distribution can become “dollar cost ravaging” since a portfolio can experience a significant drawdown from which it may not recover. The math of periodic contributions and distributions are 180 degrees apart. During accumulation, you can buy more shares with a fixed dollar amount if the price falls, so an eventual recovery can significantly lift your portfolio. During distribution, you must sell more shares at lower prices to generate a fixed dollar amount, and an eventual recovery may not prevent your portfolio from failing, so a much more thoughtful approach is needed for those in the payout phase of life versus the accumulation phase.

“It is better to be consistently good than occasionally great”

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The chart below is taken from one of the most well-known studies

completed right after Bill Bengen’s seminal work of 1994. It was

published in 1998 by professors at Trinity University, San Antonio, and

is now referred to as “the Trinity Study”. Its official name is:

Retirement Savings: Choosing a Withdrawal Rate that is Sustainable.

It is authored by Philip L. Cooley, Carl M. Hubbard, and Daniel T. Walz.

These are only two lines from a larger chart in their work, but some

interesting things come to light when the numbers are examined: (1)

the lowest success rate happened to portfolios that were too heavy in

bonds; (2) the highest success rates, IF the rate of withdrawal was in

the 4-5% range, seems to be somewhere near a 50/50 mix, with a

slight bias to bonds in the “no COLA” example, and slight bias to stocks

in the “COLA” example, and (3) higher weighting of stock above a 50-

75% concentration did not seem to improve the probability of

success…it actually decreased it slightly. However, not shown here is

the interesting phenomenon that occurred if the withdrawal rate was

ABOVE 5%, and then a higher concentration of equities, even though

failure rate was increasing, still had a better chance of survival than did

the other mixes with a higher percentage of bond holdings.

30-year retirement horizon: no COLA; data from 1926-1995. Probabilities of success –

withdrawal rate 100% bond 75% bond 50/50 75% stock 100% stock

5% 51% 100% 100% 98% 95%

with COLA

4% 20% 71% 95% 98% 95%

"Probabilities of success" means having some money in the portfolio at the end of the period.

In summary, it appears as though adding more potential return with

higher volatility (standard deviation) to the mix does not add to the

probability of success, but may possibly detract from it slightly.

This issue of changing the mix of investment DURING retirement has

received quite a bit of attention lately, with significant work being done

by Wade Pfau and Michael Kitces (January 2014: Reducing Retirement

Risk with a Rising Equity Glidepath).

In that article, after a thorough discussion of literature review on the

subject, Pfau and Kitces ran 10,000 Monte Carlo simulations for 121

various glidepaths (asset allocations that change over time) and made

these conclusions: “Across all time horizons and withdrawal rates,

when examining the approach which provides the highest sustainable

withdrawal rates…the results consistently show support for rising equity

glidepath portfolios. Generally, depending on the underlying

assumptions, the optimal starting equity exposures are around 20 –

40% and they finish at around 40 – 80%.”

It is interesting to note that since this conclusion appears to be so

contrary to the “accepted wisdom” (one decreases equity exposure with

age), Pfau and Kitces comment that their research has “significantly

disruptive implications.”

However, they go on to comment that “The success of a retirement

scenario is heavily influenced by the sequence of returns.”

Dr. Pfau had examined that issue in a paper of September 2013 titled:

The Lifetime Sequence of Returns: A Retirement Planning Conundrum.

He examined both the accumulation period up to retirement, and the

distribution period after retirement, and came to these conclusions:

“…the compounded return in the last 15 years (prior to retirement)

explains 65% of the wealth accumulation.” Further, “the compounded

return in the first 10 years of retirement can actually explain 77% of the

final retirement outcome.”

This would explain why it makes so much sense, mathematically, to

reduce equity exposure during the most critical time right before and

right after retirement, and then build it up later.

Pfau goes on to explain that the very first year of retirement accounts

for more than 14% of the final outcome for all of retirement cash flows,

NO COLA data: Numbers rounded to the nearest whole percentage. The number of overlapping 15-year payout periods from 1926-1995, inclusively, is 56; 20-year periods, 51; 15-year periods, 46; 30-year periods, 41. Stocks are represented by the Standard and Poor’s 500 Index, and bonds are represented by long-term high-grade corporates. Data source: author’s calculations based on data from Ibbotson Associates. With COLA: same data as first footnote; however, the withdrawal amount is increased by inflation (or decreased due to deflation) as measured by the Consumer Price Index (CPI).

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and the first 5 years account for over half of the probabilities of

“success” or “failure.”

Some have referred to this period right before, and right after,

retirement as “the red zone,”* and Pfau concludes his comments with:

“Sustainable withdrawal rates are disproportionately explained by what

happens in the early part of retirement.”

If we look at the math of a decline, it is easy to see why it is so

important to avoid downdrafts. Although true during accumulation, it is

magnified in importance during distribution since money is coming out

at the same time values are declining.

Notice that if a portfolio declines by 10%, it only needs slightly more

than an 11% return the next year to get back to break even. $100,000

X 90% (a 10% loss) = $90,000 X 1.1111 (an 11.11% return) =

$100,000. But a portfolio that declines 25% needs a 33% return the

next year to get back to even! $100,000 x 75% (a 25% loss) = $75,000

X 1.3333 (a 33.33% return) = $100,000. Low volatility portfolios are

very important for two reasons: the math, and investor behavior.

THE RATE OF WITHDRAWAL DOES AFFECT YOUR INVESTMENT RETURN The average annual return of an investment, or an asset allocation, will

change as soon as you change from a lump sum investment to making

additional deposits or make various withdrawals. Small amounts may

change the final calculated AATR (average annual total return), but

larger withdrawals may change it substantially, and the more volatile

the investment, the more likely that will happen.

The reason is quite straightforward: additions or withdrawals mean you

are buying (or selling) shares at differing prices than the original lump

sum and the time period measured for the AATR is now also different

for those additional transactions.

Here are some examples of that using Morningstar:

• A portfolio that is a 50/50 mix of S&P 500 TR (Total Return) and

Barlcays Aggregate Bond Index from 01/31/1973 until

02/28/2015 had an average annual return of 9.78%/year.

• The same portfolio and time frame, with a 4% withdrawal rate and

2% COLAs shows an AATR (average annual total return) of 9.60%.

• The S&P 500 TR from 01/02/1973 to 02/28/2015 had an AATR

of 10.37%

• The same index during the same time period with 4% withdrawals

and a 2% COLA each year shows an AATR of 9.65%. Volatility

matters.

Volatility can affect the “probability of success” just as total return can.

Listed below are statistics from Morningstar Advisor Workstation for (1)

the S&P 500 TR, (2) the Barclay’s Aggregate Bond Index, and (3) a

50/50 portfolio. Take a close look at the standard deviation numbers

(volatility) and the “best year”, “worst year” statistics.

(1) Barclay’s Aggregate Bond since 01/31/1973 (assumes no

withdrawals):

a. 7.56% aatr (average annual total return)

b. 4.23% standard deviation (10-year annual average)

c. 30.46% best year (10/81 – 09/82)

d. – 4.46% worst year (11/93 – 10/94)

(2) S&P 500 TR since 01/31/1973 (assumes no withdrawals):

a. 10.43% aatr

b. 14.76% standard deviation

c. 61.18% best year (07/82 -- 06/83)

d. -43.32% worst year (03/08 – 02/09)

(3) 50/50 mix of the two indecies

a. 9.78% aatr

b. 7.02% standard deviation

c. 40.93% best year (07/82 – 06/83)

d. -17.96% worst year (03/08 – 02/09)

Mixing in bonds (or some other portfolio stabilizers) may reduce overall

return, but greatly reduces volatility…and volatility matters. Notice that

the standard deviation falls in half (7.02% vs. 14.76%) in a 50/50

portfolio compared to all stocks. But the return was only .65% per year

less.

A word of caution about any lessons to be learned from the previous

paragraphs: they are hypotheticals looking back at history (sometimes

referred to as “back testing”). And, bonds in particular have a very

interesting anomaly to consider: interest rates peaked in 1981 and

have been in fairly consistent decline until very recently when they

bottomed at all-time lows.** Bond values increase as interest rates

fall; therefore, we just went through a 30-year bull market in bonds that

most likely cannot be repeated anytime soon since rates cannot

continue to fall lest they become negative. Therefore, in imagining

returns in the future, different assumptions probably need to be built

into simulators since the future bond returns probably can’t replicate

the recent past (at least the past 3 decades). The Barclay’s Aggregate

(bond index) from 12/31/1980 to 02/28/2015 averaged 7.93% AATR

(average annual total return), and this is probably not a reasonable

assumption to make in 2015 looking forward.

*”Retirement Red Zone” is a registered trademark of Prudential

Insurance Company of America.

**federalreserve.gov: selected interest rates/historical data

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“SAFE” (SUSTAINABLE) WITHDRAWAL RATES…REVISITED On January 21, 2013, Morningstar Investment Management published

a paper by David Blanchett, CFA, CFP® (Head of Investment Research

for Morningstar) and Michael Finke, Ph.D., CFP® (Professor at the

Department of Personal Financial Planning at Texas Tech University)

and Wade D. Pfau, Ph.D., CFA (Professor of Retirement Income at the

American College).* They make the argument that “the average

annualized bond total return over the next 10 years is expected to be

1.8%...this return is almost 4% less that the 5.5% average annual return

on the Ibbotson Intermediate-Term Government Bond Index from 1930-

2011.”

And incidentally, it is in this paper which has the now-famous statement

about a 2.8% withdrawal rate being the new “safe” withdrawal rate,

replacing the 4% standard.

The paper goes on to make convincing arguments that we should

“adjust our expectations” about asset returns in the upcoming years

since we are starting from record low yields (and therefore

unsustainably high prices for bonds). And price/earnings ratios (P/E)

for stocks are elevated as well, when compared to the historical

averages.

Currently, (the summer of 2015), bond yields are still wallowing near

record lows** and stock P/E ratios (whether you looked at trailing P/E,

estimated forward P/E, or Robert Shiller’s adjusted P/E) are at elevated

levels, it may be time to adjust return expectations downward to some

degree and then run Monte Carlo simulations and look at the results.

In a similar vein, below are a few sentences pulled directly from a

recent article in Advisor Perspectives (September 2, 2014) titled: “Can

Returns Still Use a 4% Withdrawal Rate?”

“Today we are dealing with a situation in which Shiller’s cyclically

adjusted price-to-earnings ratio (CAPE) is well above historical averages, while bond yields are at historical lows. Retirees are also exposed to sequence-of-returns risk, as the returns experienced in early

retirement will have a disproportionate impact on their final retirement outcomes. When spending down their principal in the meantime, it will be unfortunate even if interest rates and market valuations “normalize”

in the next 5-10 years.

Today’s high-valuation/low-yield situation has been quite rare in U.S. history, indicating we are in uncharted territory when trying to

determine if the 4% rule will remain a safe strategy. Historical simulations don’t analyze this possibility, but with Monte Carlo simulations we can adjust our capital-market expectations to better

account for the types of returns that are more likely to be experienced in the future.

Here is an example to demonstrate the vulnerability of the 4% rule. On

Aug. 15, five-year Treasury Inflation-Protected Securities were yielding negative 0.28%. This is 2.76 percentage points less than the historical 2.48% real return experienced by intermediate-government bonds.

Today’s retirees will be more strained to spend principal to achieve a 4% sustainable withdrawal rate. If we assume that the historical risk

premium for stocks and other asset characteristics remains the same, but we adjust the average return on stocks and bonds downward by 2.76% to reflect today’s lower bond yields, we obtain higher failure

rates for the 4% rule.

Figure 2 repeats Figure 1 but includes portfolio success rates for Monte Carlo simulations based on today’s low yields. The ability to

make these adjustments is unique to Monte Carlo simulations. These adjustments question the safety of 4% as a sustainable withdrawal strategy. The highest portfolio success rates are seen with stock

allocations between 80% and 100%, and the success rate is only 73% in these cases. With low bond yields, it is extremely difficult for a bond-heavy portfolio to sustain 4% withdrawals, and success rates fall as low

as 10% for an all-bond strategy (based on bond funds, not laddered individual bonds).”

(The chart on page 13…Figure 2…is from the same article)

* Low Bond Yields and Safe Portfolio Withdrawal Rates, by David

Blanchett, CFA, CFP, Michael Finke, Ph.D., CFP, and Wade Pfau, Ph.D.,

CFA; Morningstar Investment Management, January 21, 2013.

** federalreserve.gov: selected interest rates/historical data

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(End of direct quote and chart from Advisor Perspectives.)

Notice that the green “probability of success” line above in the chart

(which is built from assumptions about the current market environment)

is appreciably lower than the more commonly used assumptions and

historical record of the lines (blue and red) shown near the top of the

graph. The point? If regression to the mean is true, and we are at

historically low yields in bonds and relatively high valuations in stocks,

then we may need to change our assumptions and expectations about

returns in the upcoming years.

Does this mean the 4% rule won’t work? Not necessarily…but it may

not be quite as “safe” as some have assumed. Probably more

important than the initial “rate” of withdrawal are the annual

adjustments to that withdrawal.

Bill Bengen first developed the idea of a 4% sustainable withdrawal

back in October of 1994 when his work was first published in the

Journal of Financial Planning. Mr. Bengen, in addition to being a CFP

(Certified Financial Planner), also has a degree in aeronautics and

astronautics from MIT. Among his many published works, he co-

authored “Topics in Advanced Model Rocketry” back in 1973 (Journal

of FP October 2014, volume 27, No. 10). So we believe it may be safe

to say that finding an appropriate withdrawal rate isn’t rocket science.

Mr. Bengen’s work relied on the historical records of asset returns.

Although Monte Carlo simulations had been in use for some time (the

original “Monte Carlo” dates back to 1946 and the name…it is

rumored…comes from the methodology being used to assist in

estimating how to win at certain casino games in, of course, Monte

Carlo).

Simulations of asset returns and retirement income projections had not

come into the fore at the time Bill did his seminal work, so he used the

historical records and the now-famous “4% rule” assumed static

automatic increases in payouts. (For example, a withdrawal of $40,000

on $1,000,000 (4%) would go up the next year by a specified cost-of-

living increase; e.g. $41,200 is a 3% increase over the $40,000 starting

figure). The goal was to keep retiree’s spending at the same “real”

(inflation adjusted) level.

Modern analysis of Bill’s work has made three major adjustments.

• First is to use Monte Carlo simulators that “project” possible

future scenarios and see if a payout rate is sustainable.

• Second is adjusting the payout period based on remaining life

expectancy rather than a standard period (and a variation on that

theme is the IRS table for Required Minimum Distributions, or

RMDs)

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• Third, and probably the biggest, is the adoption of withdrawals

being “dynamic” or “adaptive” to how your portfolio is performing

and what the markets and economy are doing.

Concerning the second point about life expectancies, the IRS Table I in

Publication 590 can be used as a divisor (denominator) since the idea

is that dividing an account balance by the number corresponding to age

(and the divisor changes every year as the person ages) should

liquidate the account by the end of life expectancy. The table

terminates at age 111. Assuming you are certain you would make it

that long, you could use this as a guide and maybe “round up” a little

bit, but it is interesting to note that the factor for age 60 is 25.2 and for

age 65, it’s 21. Take an account balance and divide by 25.2 and you

will see that the distribution percentage is just under 4% for someone

age 60, and it’s just a bit over 4.7% for someone age 65. The

withdrawal percentage is not necessarily static, but as a person ages,

he or she should be able to take slightly higher percentages of the

remaining balance since life expectancy (the period of years remaining)

is getting shorter.

For JOINT life expectancies, the factor will be larger, making the

withdrawal percentage lower. But that is the point…joint life

expectancies are longer than either individual, so the time period for

paying out income will be longer; therefore the “safe” withdrawal rate

will be lower, assuming a married couple wants income for life for both.

After many years of testing, studying, calculating, researching and

publishing, what are the conclusions? Does the old “4% rule” created

by Mr. Bill Bengen over 20 years ago still hold water? In essence, yes it

does, but with thoughtful revisions. Keep in mind that “variations on a

theme” might have to do with one or more of the following:

(1) assumptions about capital market (asset) returns and volatility

in the future, and inflation,

(2) the time period to take those withdrawals, and

(3) whether or not you want to assume inflation-adjusted

withdrawals, or a more “dynamic or adaptive” approach to

withdrawals (some years you may take more, some less, and some

no raises, etc.).

Although there are many articles and studies published on this issue,

one we would recommend is from The Journal of Financial Planning,

October 2012 (Vol. 25, No. 10). Its cover article is entitled: “Safe

Withdrawal Rates: What Do We Really Know?” It features a retirement

roundtable of very well-known professionals who publish a lot about

these issues: Bill Bengen, Jonathan Guyton, Wade Pfau, and Michael

Kitces.

In an effort to answer these questions brought up in this paper, in

February of 2015, we decided to set up phone interviews with all of the

gentlemen mentioned in the paragraph above, plus David Blanchett of

Morningstar, and Doug Dunning and Steven Wolfraith of RiverSource

Annuities (RiverSource Life Insurance Company). Below are summaries

of those conversations.

As evidenced in their biographies (located in the endnotes), these

thought leaders have made major contributions to the issue of safe or

sustainable withdrawal rates in retirement.

THE INTERVIEWS, AND THE ANSWER: START WITH A “PRUDENT” PAYOUT AMOUNT, AND MAKE YOUR PAYOUTS “ADAPTIVE”:

BILL BENGEN

Mr. Bengen, who is now happily retired from his financial planning

practice in Southern California, talked about what he had learned over

the years in helping so many retire, and how he felt about his own

withdrawal rate in retirement. He commented how important portfolio

reviews are, at least annually, and that Monte Carlo simulations should

be rerun each year as well. He said he starts getting nervous when the

“probability of success” drops below 90% and heads toward 75% or

80%. The former rocket scientist said that whereas the laws of physics

are predictable; financial markets are not.

He directed his retiring clientele to consider four possible steps to deal

with the sustainable withdrawal issues:

(1) use more actively-managed funds over passive strategies (his

point about “matching” the S&P 500, which would be a passive

strategy: “Who cares? Do you want to ‘match’ negative 38% like

2008?”),

(2) raise cash,

(3) look at hedging strategies against equity volatility, and

(4) using annuities can be very helpful to hedge longevity risk.

He had a very thought-provoking comment when he said he has a

derivation of Warren Buffet’s saying about never losing money: “Rule

#1: ‘never have a big loss’, and Rule #2: ‘never forget rule #1.’”

Additionally, Bengen recommends that all investors should keep these

three things in mind as they enter retirement:

(1) lower your expectations about market returns;

(2) be prepared to adjust your spending through the years; and

(3) Expect the unexpected – protect your capital.

MICHAEL KITCES

Mr. Kitces, a nationally recognized and frequently published academic

in this field of retirement planning, had very similar discussion points as

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Bill. His greatest emphasis is about adjusting withdrawals as the

portfolio changes.

He noted that spending rates determine which is more important – total

return or volatility. His research indicates that a lower rate of

withdrawal will be most affected by the overall return of a portfolio, but

a higher withdrawal rate can be more affected by the volatility of that

portfolio. Recently, he and Wade Pfau completed a study that lead

them to conclude that a “U”-shaped glide path concerning equities

(stocks) may make the most sense (gradually reduce equity exposure

right before retirement, and gradually take on more exposure after

retirement). This concept combines the sequence of returns risk with

the desire for the best overall total return long term.

His point is: the last decade before retirement is the most important in

getting assets accumulated prior to drawing income (savings should

begin much earlier, but the compounding effect becomes much more

pronounced in the later years), and the first decade after retirement is

the most critical in dealing with possible negative sequence of returns.

With this in mind, it is his contention that reducing equity exposure right

before retirement should help to avoid any potential downdrafts at your

time of great decisions. Then slowly build it back up as you age in

retirement. Down markets during the first few years of retirement have

a more negative effect on a portfolio than negative years later on,

assuming balances have grown and withdrawal rates are in line.

Kitces, like Bengen, had a similar threshold with his clientele: “I get

nervous if the probability of success gets down in the 75%-80% range; if

it’s way above 90%, we want discuss this as well…maybe do some

gifting? Or spend some more? Or do a ‘set aside’ for something later,

just in case.”

The best piece of advice from the interview was his take on how a

conversation should occur if an investor sees the probability of success

(or failure) at an unacceptable level.

Concerning the probability of failure, Michael said, “We probably should

stop calling it that. To prevent failure, it is really just a ‘probability of

adjustment.’ If the retiree is willing to, and does, adjust his or her

spending along the way, then that should just about eliminate the

probability of failure.”

WADE PFAU

Dr. Wade Pfau, a noted academic in retirement planning, has some

additional variations on this theme of sustainable retirement income.

He brought up the required minimum distribution (RMD) table published

by the IRS, which calculates a divisor that should liquidate a balance

over the remaining life expectancy of an American male or female. This

number changes for each year you age. As a quick example, the IRS

table in Publication 590 (used for determining Required Minimum

Distributions from IRAs, for example), shows the factor for someone age

65 to be 31.

Take a portfolio balance and divide by 31 and notice what happens:

$1,000,000 / 31 = $32,258, or a 3.2% distribution rate. Keeping in

mind that the table does go out past age 100, and you may want to

“adjust up” just a little bit.

Pfau’s point is that life expectancy tables are a factor and the “RMD

methodology” is not a bad course of action, but with some revision.

Your payouts would adjust annually since your portfolio balance would

change and your IRS table factor based on age would change.

He also emphasized the importance of the “red zone”* -- the last few

years leading up to retirement and first few years of taking distributions

after retirement. He believes that retirees should “reduce portfolio

volatility when they are the most vulnerable.”

In addition to his research (along with Mr. Kitces) into the “U” stock

allocation glide path, he is currently researching “valuation-based asset

allocation for retirement”, which infers that you skew your allocation in

favor of stocks when the P/E ratios are below average and you would

reduce your stock allocation when P/E ratios are above average. This

theory is predicated on the fact that financial assets should “regress to

a mean.”

Pfau said that retirement should be thought of in the same way a

pension plan treats it: streams of cash flows that need to be funded. In

other words, each person’s retirement has a “funding ratio,” which

would be the present value of the needed income streams. If you have

sufficient assets, in other words, you are “fully funded” or over funded,

you have the luxury of doing other things (spend more, gift more, etc.).

However, if you are underfunded, then that suggests other choices,

such as: add more money to your accounts if at all possible, delay

retirement, spend less, make wise Social Security or pension choices,

do part-time work, consider a reverse mortgage, etc.

Pfau believes that in this era of potentially rising interest rates, using an

income annuity as a replacement for bonds makes sense in some

cases.

*”Retirement Red Zone” is a registered trademark of Prudential Insurance Company of America.

JONATHAN GUYTON

Mr. Guyton is a planning practitioner and published researcher.

Mr. Bengen, Mr. Kitces, Dr. Pfau, and Mr. Guyton are not only

contemporaries, but have also shared ideas and research over the

years.

As an active financial planner, Mr. Guyton has some applicable

comments regarding financial behavior. Since expectations drive much

of our behavior, he believes that advisors need to emphasize the

importance of setting proper expectations. Guyton says people have a

tendency to “do the right thing when in withdrawal mode, if they

understand the consequences. When things get bad, we get cautious;

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when things are great, we spend more.” He expresses how important it

is to NOT “set-it-and-forget-it” but to plan on adjusting withdrawals

regularly.*

Guyton’s “Big 3” rules are:

(1) Set reasonable expectations,

(2) Review consistently,

(3) Adjust withdrawals appropriately by following the strategy

you’ve chosen.”

In an article in the Journal of Financial Planning,** Guyton advocated

the creation of a “set aside” or slush fund with some extra funds (not

counted as part of the total portfolio on which withdrawals are based).

His justification is that unforeseen events or a change of mind could

mean unanticipated spending. A set-aside fund is specifically designed

so retirees will not interrupt their withdrawal plan from the core

portfolio. They can “raid” the slush fund instead.

* Sequence of returns: “Sequence-of-Returns Risk: Gorilla or Boogeyman?”

Jonathan Guyton, Journal of Financial Planning October 2013.

**Discretionary or “slush” fund: “When an Ounce of Discretion(ary) Is Worth a

Pound of Core”, Jonathan Guyton, Journal of Financial Planning, February 2013.

DAVID BLANCHETT

Mr. Blanchett, head of research at Morningstar, commented on the

difference between historical “look backs” and forward-assuming

Monte Carlo simulations. One of his main points: be cautious about

what you assume your returns may be.

Concerning “sustainable withdrawal rates”, he said the range from 2%-

5% is probably a reasonable starting point but emphasized that there

may be a large variance in those possible starting numbers depending

on this issue: “How comfortable are you with making changes in your

spending, over time?” If you are not, start conservatively. If you are,

you could start higher, but be willing to adjust spending downward, if

needed.

His other points:

(1) a balanced portfolio generally seems to do best over time due

to more predictability and less volatility;

(2) annuities make sense as part of the mix to manage longevity

risk; and

(3) like Michael Kitces, he thinks “success” and “failure” in the

simulation vocabulary needs to change. It should be more

nuanced, such as “how much left over at the end,” or the opposite

issue: “risk of adjusting spending” (to avoid depletion).

Modern portfolio theory (MPT) statistics use terms like “alpha” (excess

returns above expectations) and “beta” (volatility compared to a

benchmark), but Mr. Blanchett introduced a concept called “gamma,”

which is a more nuanced idea. Gamma is defined as a great financial

planning relationship which adds value above and beyond the possible

alpha generated by a well run portfolio. Gamma is a combination of

ideas such as proper asset allocation, annuity allocation, tax-efficient

investing and drawdown ideas, and dynamic withdrawal concepts which

adds additional value and wealth through smart techniques.

DOUG DUNNING AND STEVE WOLFRATH:

Dunning and Wolfrath have developed a tool for financial advisors to

use in helping clients monitor their spending compared to their assets.

By applying the previously discussed ideas, they created the “Income

Guide.”

Dunning, a 34-year veteran of financial services, and Wolfrath, a 20-

year veteran, are both Fellows of the Society of Actuaries and members

of the American Academy of Actuaries. Wolfrath is also a Chartered Life

Underwriter (CLU).

A sentence on the literature for the Income Guide program says it is:

“an innovative approach that can help clients monitor the projected

sustainability of their lifestyle income in retirement.” In order to achieve

this, the program sets a “prudent income amount” that, based on age,

applies to the annual withdrawals which could be taken from the

portfolio and have that portfolio last a lifetime.

Unique to the Income Guide and “prudent income amount” tool is daily

monitoring and comparing the income being taken to the portfolio

market value (also valued daily). If the PIA moves above OR below the

suggested amount by certain percentages, the client gets a

communication suggesting it may be time for a review of their

distribution amount.

If the portfolio values increase to the degree that the PIA could be 25%

higher (or more) than it is currently, a notice will be generated indicating

that it might be possible to take more from the account. On the other

hand, if the portfolio has decreased enough that the PIA would have to

decrease by 10-20%, then a suggestion is made that it may be time to

think about adjusting withdrawals downward a bit. And if the PIA would

have to decrease by more than 20%, then a communication is sent that

it may be time to decrease or stop withdrawals for a time to allow

portfolio recovery. If withdrawals, when compared to the portfolio value,

stay within a range that does not suggest a reduction, or taking more,

then they are considered to be “on track.” The notices are not rules,

but suggestions for a review with their advisor for a discussion on the

issue.

Below are the “prudent income percentages” from RiverSource Life

Insurance Company as of 01/2015.

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The withdrawal rate (prudent income amount) is based on 90%

probability of success to age 95; a 50/50 mix between stocks and

bonds. The assumptions are prospective, with bonds assuming to return

4% and grading up to 6% returns in 10 years, and the equity side at 9%,

with a standard deviation (volatility measurement) of the portfolio at

9%.

Dunning and Wolfrath believe both clients and financial advisors should

consider that every portfolio is unique and may not look like the model

portfolio that is used for these projections. The series of returns a

retiree will experience will be higher or lower than assumed in the

model; so reviews become critically important to insure that withdrawals

are “in range” to keep the portfolio in proper balance.

Dunning put it this way: “We don’t change investors’ payouts; we

provide information to clients and their advisors to make intelligent

decisions.”

“We have tried to keep it simple, straightforward, and user-friendly.

With all of the possible variables, calculations could go on forever. The

most important factor is frequent review, and adjustments if needed,

along the way.”

CONCLUSIONS:

I. A good starting point to creating sustainable retirement

income is a prudent withdrawal amount. There may be

a variance in opinion as to whether that starting point is

3% or less, or maybe as high as 5%, but if you “split the

difference,” we’re right back to the 4% number.

II. Total return makes a difference, and so does volatility…so we

need to be careful to balance these two issues.

Consistency of returns is more important.

III. Sequence of returns, or the “retirement day lottery,” can

make or break sustainable retirement income cash

flows.

IV. The biggest factor to long-term sustainable income success is most likely going to be the withdrawal amount and the “adaptive” or “adjustable” withdrawals that are

determined each year. The importance of adjusting the withdrawal rate based on portfolio performance cannot be overemphasized.

POST SCRIPT: In most cases, fees and taxes are not a consideration in the

calculations of income need or withdrawal rate. It is assumed that a

“gross need” has been calculated, out of which taxes and fees will be

deducted. Keep in mind that repositioning a “non-qualified” portfolio

(one subject to taxation every year) for retirement income may involve

capital gains and/or losses. Studies are continuing in the area of “tax-

efficient withdrawals.”

Our Tax-efficient Drawdown of Assets in Retirement whitepaper was

published in April 2015 and may provide additional considerations

regarding this area of study.

ENDNOTES: Retirement Roundtable with Bill Bengen, Jon Guyton, Wade Pfau, and Michael Kitces; Journal of Financial Planning, October 2012/ Volume 25; No.

10; page 36 ff

Prudent Income Amount: from RiverSource Annuities Income Guide literature

Probability of Adjustment: from “Renaming The Outcomes Of A Monte Carlo Retirement Projection”: by Michael Kitces on his blog, August 14, 2013.

2.8% withdrawal rate: from “New research article: The 4% Rule is Not Safe in a Low-Yield World”: by Wade Pfau on his Retirement Researcher Blog,

January 15, 2013 AND

“Low Bond Yields and Safe Portfolio Withdrawal Rates”, by David Blanchett, CFA, CFP, Michael Finke, Ph.D, CFP, and Wade Pfau, Ph.D, CFA;

Morningstar Investment Management, January 21, 2013. To wit: (page 7 of the Morningstar report) “Bengen (1994) recommends a 4 percent initial

withdrawal rate from a portfolio made up of 50 percent stocks and 50 percent intermediate term treasuries, is sustainable for a minimum of 33

years…” “Later research by Cooley, Hubbard, and Waltz (1998), often called the Trinity study, generally confirmed Bengen's findings…that if a retiree

seeks a 75 percent probability of success, a 4-to-5 percent initial withdrawal would be a good place to start…” “These findings have been affirmed by

other research as Milevsky, Ho, and Roberson (1997) and Jarrett and Stringfellow (2000), among others.” However, page 11 concludes: “This paper introduced a model that takes into account current bond yields when determining the probability of success…a retiree who wants a 90% probability

of achieving a retirement income goal with a 30-year time horizon and (has) a 40% equity portfolio would only have an initial withdrawal rate of 2.8%.”

“Asset allocation can significantly affect a portfolio’s ability to sustain a given cash flow during retirement”. Research by Ervin, Filer, and Smolita

(2005), Tezel (2004), Cooley et al (2003), and Kaplan (2005) demonstrate that portfolios with lower equity allocations tend to generate higher

probabilities of ruin…” (note to reader: this research was done just prior to the “great recession” of 2008-2009).

In an additional note sent by Michael Kitces, he wrote: “On the importance of total return vs volatility: with very low withdrawal rates, the reality is

that neither matters (because) you are spending too little to fail in any scenario. As the withdrawal rate rises (>3% to 6%), you need SOME return, but

the volatility of that return begins to matter significantly as well. At very high withdrawal rates (6% or more), volatility actually matters less again and

the driver is just total return – basically, you’re ‘swinging for the fences’ and you’ll either strike out or hit a home run. There’s no room for anything in

between if you’re spending that aggressively.”

Other readings:

> “Retirement Withdrawal Rates and Portfolio Success Rates: What Can the Historical Record Teach Us?” Wade Pfau, fall 2011 edition of

Retirement Management Journal

> “Determining Optimal Withdrawal Rates: An Economic Approach” D. Williams and Michael Finke, fall 2011 Retirement Management Journal

> “The 4 Percent Rule is Not Safe in a Low-Yield World” Michael Finke, Wade Pfau, and David Blanchett, Journal of Financial Planning

> “Spending Flexibility and Safe Withdrawal Rates.” Michael Finke, Wade Pfau, and D. Williams, Journal of Financial Planning, 2012, volume 25(3)

pages 44-51

> “Withdrawal Rates, Savings Rates, and Valuation-based Asset Allocation.” Wade Pfau; Journal of Financial Planning, April, 2012

> “Retirement Savings: Choosing a Withdrawal Rate That is Sustainable.” Philip Cooley, Carl Hubbard, and Daniel Walz (Trinity University, Texas),

AAII Journal, February 1998

> “Renaming the Outcomes of a Monte Carlo Retirement Projection.” Michael Kitces blog posting of August 14, 2013.

> “Financial Independence in Lieu of Retirement, and Other Phrases That Should be Banished from Retirement Planning.” Michael Kitces blog

posting of October 22, 2014

> “Why 4% May Be a Sustainable Withdrawal Rate.” Gregg S. Fisher, CFA, CFP February 14, 2014 Financial Advisor magazine

> “Capital Markets Expectations, Asset Allocation, and Safe Withdrawal Rates.” Wade Pfau, Journal of Financial Planning (January, 2012)

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William P. Bengen, CFP®, is a recently-retired financial advisor based in Chula Vista California. His seminal article, “Determining Withdrawal Rates Using Historical Data,” published in the Journal of Financial Planning in October of 1994 is the groundbreaking study for the now-famous “4% rule.” His published book, “Conserving Client Portfolios During Retirement” (FPA press, 2006) has inspired many others to build on his work.

Wade D. Pfau, Ph.D., CFA®, is a Professor of Retirement Income at The American College in Bryn Mawr, PA. His research article on “safe savings rates” won the inaugural Journal of Financial Planning Montgomery-Warschauer Editor’s Award, and his work on evaluating the outcomes of different retirement income strategies received an Academic Thought Leadership Award from the Retirement Income Industry Association. Mr. Pfau is much published and frequently quoted in the media.

Jonathan Guyton, CFP®, is principal of Cornerstone Wealth Advisors, Inc., a holistic financial planning and wealth management firm in Edina, Minnesota. He is also a researcher, author and frequent national speaker on retirement planning and asset distribution strategies, and a former winner of the Journal of Financial Planning Call for Papers competition.

Michael Kitces, CFP®, CLU®, ChFC®, RHU, REBC, is a partner and research director at Pinnacle Advisory Group in Columbia, Maryland. He publishes: “The Kitces Report” newsletter and “Nerd’s Eye View” blog. He is a practitioner editor of the Journal of Financial Planning.

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David Blanchett, CFA®, CFP®, is head of retirement research for the Morningstar Investment Management group. Blanchett’s research has been published in a variety of academic and industry journals. He has won awards for his research papers in 2007, 2012 and 2014. In addition to his CFA and CFP designations, he also holds a Chartered Life Underwriter (CLU), Chartered Financial Consultant (ChFC) and Accredited Investment Fiduciary Analyst™ designations.

Doug Dunning, Vice President, Annuity Product Development. Doug heads up annuity product development and management for variable, fixed and payout annuities at RiverSource Life Insurance Company (a subsidiary of Ameriprise Financial). He is a Fellow of the Society of Actuaries and a Member of the American Academy of Actuaries. He serves as a member of the LIMRA annuity committee.

Steve Wolfrath, FSA, MAAA, CLU®, is vice president of annuity development at RiverSource Life Insurance Company (a subsidiary of Ameriprise Financial Services, Inc.). In his role, Steve and his team are responsible for the design and pricing of variable, fixed, and payout annuities. He is a Fellow of the Society of Actuaries.

IMPORTANT DISCLOSURES The views expressed in this publication reflect the personal views of the author. Further, Ameriprise Financial Services, Inc. research department employee compensation is neither directly nor indirectly related to the specific recommendations or views contained in this publication. For important disclosures on securities mentioned in this analysis, please review available third party research reports and charts with applicable disclosures on our website at ameriprise.com, or through your financial advisor, or by submitting a written request to Ameriprise Financial Services, Inc., 1441 W. Long Lake Rd, Suite 250, Troy, MI, 48098. The S&P 500 is a basket of 500 stocks that are considered to be widely held. The S&P 500 index is weighted by market value (shares outstanding times share price), and its performance is thought to be representative of the stock market as a whole. The S&P 500 index was created in 1957 although it has been extrapolated backwards to several decades earlier for performance comparison purposes. This index provides a broad snapshot of the overall U.S. equity market. Over 70% of all U.S. equity value is tracked by the S&P 500. Inclusion in the index is determined by Standard & Poor’s and is based upon their market size, liquidity, and sector. The Barclays Capital U.S. Aggregate Index is an index comprised of approximately 6,000 publicly traded bonds including U.S. government, mortgage-backed, corporate and Yankee bonds with an average maturity of approximately 10 years. The index is weighted by the market value of the bonds included in the index. This index represents asset types which are subject to risk, including loss of principal. It is not possible to directly invest in an index.

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Annuities: Annuities are not federally or FDIC insured and are not a deposit of or guaranteed by any bank or any bank affiliate. All guarantees are based on the continued claims paying ability of the issuing company and do not apply to the performance of the variable subaccounts, which will vary with market conditions. Features and availability may vary by state. Variable annuities are insurance products that are complex, long-term investment vehicles that are subject to market risk, including the potential loss of principal invested. Clients should consider the investment objectives, risks, charges and expenses of the variable annuity and its underlying investment options carefully before investing. For a free copy of the annuity's prospectus and underlying investment's prospectus, send an email message to [email protected]. The prospectus should be read carefully before investing. Accessing policy cash value through loans and surrenders may cause a permanent reduction of policy cash values and death benefit and negate any guarantees against lapse. The amount that can be borrowed or surrendered will be affected by the surrender charges applicable to the policy. Loans may be subject to interest charges. Although loans are generally not taxable, there may be tax consequences if the policy lapses or is surrendered with a loan (even as part of a 1035 exchange). It is possible that the amount of taxable income generated at the lapse or surrender of a policy with a loan may exceed the actual amount of cash received. Surrenders are generally taxable to the extent they exceed basis in the policy. If the policy is a modified endowment contract (MEC), pre-death distributions, including loans, from the policy are taxed on an income-first basis, and there may also be a 10% federal income tax penalty for distributions prior to age 59 ½. RiverSource is part of Ameriprise Financial. DISCLAIMERS Except for the historical information contained herein, certain matters in this report are forward-looking statements or projections that are dependent upon certain risks and uncertainties, including but not limited to, such factors and considerations as general market volatility, global economic and geopolitical impacts, fiscal and monetary policy, liquidity, the level of interest rates, and historical sector performance relationships as they relate to the business and economic cycle. This summary is based upon financial information and statistical data obtained from sources deemed reliable, but in no way is warranted by Ameriprise Financial Services, Inc. as to accuracy or completeness. This is not a solicitation by Ameriprise Financial Services, Inc. of any order to buy or sell securities. This Summary is based exclusively on an analysis of general current market conditions, rather than the suitability of a specific proposed securities transaction. We will not advise you as to any change in figures or our views. Past performance is no guarantee of future performance. Ameriprise Financial Services, Inc. Member FINRA and SIPC. Investment products are not federally or FDIC-insured, are not deposits or obligations of, or guaranteed by any financial institution, and involve investment risks including possible loss of principal and fluctuation in value. Neither Ameriprise Financial, nor any of its advisors or representatives, provides tax advice. © 2015 Ameriprise Financial, Inc. All rights reserved.

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