1. An Integrated Approach to Retirement Planning
Title Goes Here
Dr. Michael Finke, PhD, CFP
Dean and Chief Academic Office
The American College

2. Trends in income before and after retirement Pre- and Post-Retirement Income at 75 Percentile
Data: Purcell, 2012

3. What We Spend Right After Retirement
Source: Finke & Guo, 2015

4. How Much Will I Spend in Retirement?
Source: Banerjee, 2015

5. Spending Falls Faster among Wealthy
Source: Banerjee, 2015

6. Grasshoppers and Ants in Retirement
Working Stage
Retirement Stage
Retirement
Use both HRS and CAMS (Consumption and activity mail survey), so that we have both high quality health, financial variable, also the detailed consumption information.
If someone claim they leave the workforce, we include them in our sample. Wave 6.
We then segment them through a first-stage regression model. Similar to Hurst 2003, we control for income and wealth, and look at the residue. If the residue is over 1 std dev above others, we identify them as the overspenders. We refer them as the grasshoppers. The rest of the groups is ants groups, they are likely to have a habit of thrift.
Our robustness check shows that these grasshoppers and ants households are not different in their income level and wealth. Yet the first group end to spend around $40,000 more each year than in ants households.
After I Identify the grasshoppers and ants during working stage, I want to know whether their behavior will change after retirement.
Datasets: HRS and CAMS
Pooled cross-sectional analysis, starts in 2002

7. Identifying Grasshoppers and Ants
Wealth Rank
Pre-Retirement Spending
Pre-Retirement Income
Retirement
Wealth
Ants
G-hoppers
80th up to 90th Percentile
$42,040
$83,620
$82,561
$78,267
$646,172
$629,807
90th Percentile and Up
$57,530
$125,496
$156,238
$201,137
$1,431,005
$1,532,886

8. Grasshoppers and Ants Spending After Retirement
Source: Guo and Finke, 2015

9. Impact of a Windfall on Spending Amount Spent Annually per $1,000 windfall

10. Retirement: Revenge of the Grasshopper?

11. How concerned are you that you will run out of retirement savings in old age?
Finke, 2016

12. Where the 4% rule comes from
S&P returns have varied materially over 10 year periods
Source: Ibbotson 12

13. An Illustration of 4% Rule Assumptions
DEAD
Financial Assets
Real Spending
Age 65
Age 95 13

14. How the 4% rule deals with unknowns
Don’t know how long you’ll live
Use a 30 year time horizon
Don’t know future asset returns
Based on historical U.S. returns
Don’t know how much you’ll spend
Assumes constant inflation-adjusted spending
Setting up discussion of unknown longevity, asset returns, and long-term care coverage

15. Assumption 1 30-Year Retirement Life Cycle
Q: How long am I going to live? A: Who knows? But probably longer than you think.

17. Wealthier People Tend to Live Longer
Change in average additional life expectancy (in years) at age 55, by wealth, between cohorts born in 1920 and 1940
Source: Barry Bosworth, Brookings Institution 17

18. Assumption 2: We Can Use Historical Asset Returns

20. Assets needed to support $1,000 of income
End of year average 10-year Treasury bond yield and S&P 500 dividend yield.

21. Cost of Real $1 Annuity Income Has Doubled Since 1982

22. Savings Rate Needed to Smooth Spending
Income
Source: Blanchett, Finke and Pfau, 2017

23. Using portfolios to fund retirement income: Deterministic vs
Using portfolios to fund retirement income: Deterministic vs. Stochastic
Deterministic
You know exactly how many years of inflation-adjusted income you can buy with TIPS.
Real interest rate, annual spending determine when you run out of money
Stochastic
Unknown variance in bond returns (inflation, risk premium) and real stock returns
Real risk premium on equities and bonds = higher or lower potential portfolio size than with TIPS
Sequence of returns matters
To fund retirement, you can use stocks or bonds. Starting with a baseline of safe bonds, in which we know exactly when we’ll run out of money, to help us understand the risk of investing in stochastic assets like stocks. 23

24. Using Treasury Inflation-Protected Securities (TIPS) or Bonds to Buy Income (1% Real Return)
Source: Finke, 2015 24

25. Using Risky Investments in Retirement Hypothetical Example: 50/50 Chance of -20% or 35% (7.5% Average)
Portfolio Value $
Age 66
Age 67
Age 68
Age 69
Age 70
$800,000
$1 Million
$600,000
$400,000
$200,000
$1.2 Million
$759,000
Spending = $40,000 Real
$982,625
$565,175
+35%
-20%
$1.28 Mill
$743,024
$719,991
$409,064
$283,099
$550,267
$927,727
$531,776
$508,084
$982,622
$958,930
$696,925
$672,641
$380,165
$640,517
$361,211
$336,927
$181,223
$1.21 Mill
$394,957
$697,604
$721,887
$1.25 Mill
$740,841
$950K Bond Only
50% of Retirees
25% of Retirees
12.5%
6.25%
3.125%
Age 65
Using the assumption of a 50/50 probability and two possible returns (-7.5% and 35%) to show how randomness in returns creates a distribution of outcomes.
Source: Finke, 2015 25

26. Simulating Retirement Outcomes
Source: Finke, 2015 26

27. The Cone of Retirement Outcomes
Retirement Wealth
Higher Equity Portfolio
Higher Bond Portfolio
Cone diagram to illustrate graphically the distribution outcomes and explains how reduced portfolio risk means a smaller distribution (cone) of outcomes.
SUCCESS!
100% TIPS
Age 70 75 80 85 90 95
100
Source: Finke, 2015 27

28. How would you describe your change in attitude towards risk over the past year?
Age
Respondents who were closer to retirement were far more likely to become less tolerant of risk over the last year. Over 50% of respondents over 55 were less risk tolerant, while less than 15% were more risk tolerant.

29. 1926-2017 Bond Term Risk/Return Tradeoff
Source: Morningstar data

30. Since 1970, Bonds Have Been More Risky
Source: Morningstar data

31. Historical future value of $1 in 20 years
Source: Morningstar data

32. Historical 10-year bond holding period return
1960
1980
Source: Morningstar data

33. 1960-1980 Rising Rate Environment and Bonds
Source: Morningstar data

34. Monte Carlo Success Rates following 4% rule using Morningstar forward bond projections
Assumes 60% bond, 40% equity portfolio using projected equity performance

35. Monte Carlo Success Rates following 4% rule using Morningstar forward bond projections
Assumes 60% bond, 40% equity portfolio using projected equity performance

36. Monte Carlo Success Rates following 4% rule using Morningstar forward bond projections
Assumes 60% bond, 40% equity portfolio using projected equity performance

37. Monte Carlo Success Rates following 4% rule using Morningstar forward bond projections
This provides a hypothetical illustration of the benefit of incorporating cash value, which smooths returns early in retirement (reducing sequence risk), while providing average returns similar to a long-term bond. In other words, cash value provides the term premium without the early retirement return risk.
Assumes 60% bond, 40% equity portfolio using projected equity performance
Smoothing is simulated to illustrate potential sequence of return benefit

38. I would feel uncomfortable spending more than my income in retirement.
Texas Tech Retirement Planning and Living Survey, 2015
Finke, 2016

39. Cost of bond ladder income vs. annuity
Immediate Annuity = $18.87

40. Bonds vs. annuitization
Source: Pfau, 2016

41. Benefit of annuitization by age
Comparison of the cost of building retirement income through a bond ladder vs. annuitization (mortality credits) at various ages

42. Financial Institution
Cannex Annual Income Quotes for 65 Year Old Couple (Joint) Cash Refund Option at $100,000
Financial Institution
Annual
Income
Taxable
Portion
The Lincoln National Life Insurance Company
$5,254.59
$1,529.09
Integrity Life Insurance Company (W&S)
$5,230.59
$1,506.41
Forethought Life Insurance Company - A Global Atlantic Company
$5,178.74
$1,450.05
New York Life Insurance and Annuity Corporation
$5,110.97
$1,425.96
Nationwide Life Insurance Company
$5,086.97
$1,361.48
Principal Financial Group
$5,080.75
$1,392.13

43. Retirement Asset Optimization
Tom
Source: Finke, 2016

44. Using a bond ladder to create $44,623 of income from age 85 to 99
99: $16,334
98: $16,824
Using a bond ladder to create $44,623 of income from age 85 to 99
97: $17,329
96: $17,849
95: $18,384
94: $18,936
93: $19,504
92: $20,089
91: $20,691
90: $21,312
Total bond ladder payments = $303,795
89: $21,952
88: $22,610
87: $23,288
86: $23,987
85: $24,707

45. Making DIAs More Efficient: The QLAC
Qualified Longevity Annuity Contract
Use up to $130,000 (or 25%) of IRA assets to purchase a DIA
Avoid RMDs on $130k, taxed on income when DIA begins
Assets within DIA wrapper grow tax free between 70.5 and when the income begins

46. Financial Literacy and Confidence
Source: Finke, Howe and Huston, 2016

47. Cost of Funding a Real $10,000 Income Stream
Assumptions:
65-Year Old Female
Planning Age: 100
Fixed real yield curve
at Interest Rate
Society of Actuaries
Individual Annuitant
Mortality Table
41%
34%
28%
23%

48. Match Investments to Time Horizon and Spending Risk
Long duration favors equities, but legacy risk exists
Allocation = Willingness to accept variation in spending
Optimal portfolio for duration of spending
Bonds and fixed annuities. DIAs/QLACs for later life spending.
Basic Expenses
Discretionary
Legacy
Aspirational and Gifts

49. Thank You.
To learn more about the Retirement Income Certified Professional® (RICP®) designation, please visit TheAmericanCollege.edu/RICP
RICP Specific Thank You
TheAmericanCollege.edu