Morningstar - Q1 2024 - 30

$50K
45
$50K
retirement sticks with a system of fixed real
withdrawals without adjusting spending. Variable
withdrawal strategies can support significantly
higher spending rates.
40
35
30
45
42.82
How Dynamic Withdrawal Strategies Can Help
As we did in 2022's paper, we tested a variety
of flexible withdrawal systems. An approach
that involves changing withdrawal amounts from
year to year-taking lower withdrawals
$1.2M
40
35
30
2020
1.0
Importance of Timing The effects of high inflation on portfolios vary depending on
when it occurs during retirement.
0.8
0.6
1.0
Balance of Retirement Assets at End of Year 30 Assuming Three Inflation Paths ($1 Million Starting
Balance, 0% Market Return, 1.5% Initial Withdrawal Rate, 90% Success Rate)
0.8
0.6
$300K
200
286.37
100
238.89
200
Source: Morningstar. Data as of Sept. 30, 2023.
100
EXHIBIT 4
Bad Sequence Large losses in the first year of retirement can devastate portfolios.
Percentage Likelihood of Outliving Assets by Year 30 of Retirement Based on Portfolio Return in Year 1
50%
40
30
20
10
12.1
5.9
>15%
5.9
>15%
5.6
10 to
15%
5.6
10 to
15%
Source: Morningstar. Data as of Sept. 30, 2023.
5.9
5 to
<10%
10
5.9
5 to
<10%
0 to
5%
0 to
-5%
<-5% to
-10%
<-10% to
-15%
<-15%
To help identify how flexible strategies balance
lifetime income with considerations of quality of
life and the volatility of cash flows, we tested some
30
Morningstar Q1 2024
0 to
5%
12.1
0 to
-5%
11.1
<-5% to
-10%
18.3
<-10% to
-15%
18.2
<-15%
11.1
50%
40
30
20
50.0
18.3
18.2
50.0
High Inflation in Year 1
High Inflation in Year 15
High Inflation in Year 30
256.83
2020
238.89
$300K
2021
256.83
2022
2023
286.37
1.00
2020
2021
2022
2023
Variable strategies do entail trade-offs-
specifically, the tension between a higher lifetime
withdrawal rate afforded by periodic withdrawal
adjustments and the volatility those adjustments
create in the retiree's cash flows, which may
also subject retirees to swings in their standards
of living. Consequently, some retirees may find
flexible schemes unacceptable.
For example, taking a fixed percentage withdrawal
(say, 4% of the portfolio balance per year)
entirely solves the problem of running out of
money, but it does so at the expense of
the retiree's standard of living being buffeted by
changes in the value of the portfolio. Also,
should the markets perform badly, the withdrawal
amount could end up being trivially low.
High Inflation in Year 1
High Inflation in Year 15
High Inflation in Year 30
At the opposite extreme, the fixed real withdrawal
system nicely addresses a retiree's desire
to have stable portfolio cash flows, much like a
paycheck in retirement. But taking fixed real
withdrawals can be inefficient because it does not
link consumption to portfolio values.
If the starting withdrawal is too low and the
portfolio outperforms expectations, the retiree will
leave behind a large sum, which may not be
a goal. If, on the other hand, the initial withdrawal
is too high, the retiree will consume too much
too early and risk running out prematurely
or having to engage in dramatic belt-tightening
later in life.
EXHIBIT 3
1.00
1.07
2021
1.07
Adjusting withdrawal rates based on portfolio
performance can also help ensure that
retirees consume their portfolios efficiently. For
2022
1.14
1.18
2023
1.18
1.14
$1.2M
40.00
2020
2021
40.00
45.58
2022
42.82
47.26
in weak market environments and perhaps higher
paydays in very strong ones-typically
allows for higher withdrawal rates. Flexible
strategies help prevent retirees from overspending
in periods of market weakness while giving them
a raise in stronger markets.
2023
retirees who aim to maximize consumption
(which may encompass charitable giving
and lifetime gifts to loved ones) during their own
lifetimes, flexible strategies allow for spending
increases when market performance is strong.
Moreover, for nearly all retirees, portfolio
withdrawals will compose just a portion of the
household's cash flow needs: Income from Social
Security, a pension, or an annuity will supply
some or even most of the household's spending.
As a result, changes in portfolio spending
imposed by a flexible system will affect only a
portion of the retiree's cash flows.
Spotlight: State of Retirement Income
47.26
45.58

Morningstar - Q1 2024

Table of Contents for the Digital Edition of Morningstar - Q1 2024