The Big Picture App

Virtually every financial professional who advises clients on retirement distribution strategies should be familiar with the work of Bill Bengen. In 1994 Bengen, then a relatively unknown financial planner, published an article in the Journal of Financial Planning entitled “Determining Withdrawal Rates Using Historical Data.” Here, Bengen articulated what has come to be known as “the 4% rule.”

Although his research has since been expanded upon by him and others, to this day many use the 4% rule of thumb as the benchmark for a safe withdrawal rate in retirement.

One of the conclusions of the original article was that, given historical returns, a $1 million portfolio with 50% equities and 50% intermediate government bonds, rebalanced annually, was highly likely to support an initial $40,000 withdrawal (adjusted annually for inflation) for a 30-year period.

While the 4% rule is still a good starting point, there are other factors that you and your client may want to consider. For example, most investment portfolios today are likely to diversify across additional asset classes. What would a Bengen-style analysis look like given your prospect’s current asset allocation? What would it look like given your recommended portfolio? What would the impact of a 35-year time horizon be, instead of 30 years, on the sustainability of the portfolio?

The Big Picture App, created by the Los Altos, Calif., firm Investments Illustrated, can provide the answer to all of these questions, and much more.

Exploring The App
When you log on to the Big Picture App for the first time, it becomes immediately obvious that the designers come from the “less is more” school. Virtually all of the action takes place on a single screen, though there are supplementary ones. Let’s start with planning in retirement, since that is the main draw of the app. Along the bottom of the screen, there are five boxes, each representing a different variable: withdrawal rates, years in retirement, initial investments, legacy capital (if any), and the client’s success rate.

The app comes loaded with three portfolios: conservative, balanced and aggressive. You can access these and modify them by clicking the icon to the left of the screen. In my base examples, only two asset classes are used: five-year government bonds and large-cap U.S. stocks. The conservative portfolio is 20/80 stocks/bonds, the balanced portfolio is 50/50 and the aggressive one is 80/20. When I go back to the main screen, I see a bar chart that displays the projected success rate of each portfolio (the chart displays whatever variable you are solving for). The historical success rate is the proportion of historical 30-year periods over which this applied portfolio would have met or exceeded the stated amount of legacy capital with a given initial investment, spending level or other inputs. The app back-tests the applied asset allocation in combination with other inputs over monthly rolling periods that start in 1926.

In my initial run, I used a 4% withdrawal rate, a 30-year retirement period, a $1 million initial investment, and a $100,000 legacy. The app estimates a 79% success rate for the balanced portfolio, an 87% success rate for the aggressive portfolio and a 27% success rate for the conservative portfolio.

I share the results with my clients—a boomer couple with a limited tolerance for risk who see that the conservative portfolio has little chance of meeting their goals. They are comfortable with the allocation of the balanced portfolio, but they ask if there is a way we can boost the probability of success without going 80% into equities. I create a portfolio for them consisting of 50% fixed income (40% intermediate U.S. government and 10% global bonds). I allocate the equity portion as follows: 20% to large cap, 5% to mid-cap, 10% to small cap, 15% to international. According to the app, that results in a 92% probability of success. Since I can modify allocations with either sliders or the keyboard, creating the custom allocation takes less time than it does for me to write about it.

Next, we look at some of the other variables. For example, what would happen if we needed the portfolio to last for 35 years? Well, if we change that variable to 35 years, we see that we can maintain our 92% probability of success if we lower our annual withdrawals to 3.7%. Next, we see if we can get a 4% withdrawal and a high probability of success by eliminating the $100,000 legacy. That leaves me with an 83% chance of success. If I try a 3.9% withdrawal rate with no legacy, I get a 90% probability of success on the custom portfolio, which the couple finds acceptable.