A more conservative 3 percent or 3.5 percent withdrawal rate could also benefit retirees, especially the newly retired who are most vulnerable to impairment. In the 2000 all stock example, decreasing the withdrawal to 3 percent would have lessened the portfolio principal drawdown by nearly 11 percent (to $46.904). This lower withdrawal rate would have major consequences however as it would mean 25 percent less capital available for consumption and therefore a far more frugal lifestyle.
Feeling Lucky?
We believe that markets are less likely to be cooperative over the next several years. Recent returns have been well above expected trends—more than twice what many experts anticipate over the current cycle. Lower, more volatile returns coupled with greater reliance on risk assets will pressure pre-retirees and retirees alike in ways that will impact their lives and the economy in general.
Feeling lucky? If not, there are several practices that advisory professionals can employ to combat this more challenging market environment. In addition to tax-aware best practices including location management, gain budgeting and tax-loss harvesting, advisors should also employ portfolio management best practices including a core-satellite approach, separately managed accounts (in core portfolios) and a long-term balanced portfolio approach. Holding “blue chip” large cap stocks in a balanced, client customized core portfolio should improve risk-adjusted returns. Most importantly, behavioral coaching support designed to help clients stay engaged and not attempt to market time or quit the market during emotionally trying times may be the highest value element an advisor can provide.
A 2014 Vanguard study entitled “Putting a Value on Your Value: Quantifying Vanguard Advisor’s Alpha” attributed over 3 percent to a client’s annual return through employing these advisory best practices. Quantifying the benefits associated with these best practices is difficult and will vary by client, family circumstances and stage of life.
Lower market returns will slow the growth of investment portfolios, require larger contributions or longer time frames to meet objectives, and ultimately increase the likelihood that retirees will be forced to adopt more conservative lifestyles in retirement. Providing clients with the guidance to adapt and manage temporary lifestyle modifications as a way of helping them take control over their financial lives and thus retirement quality should be the strategic objective.
As chart 2 clearly illustrates, the near-term sequence of returns holds great importance to the newly retired. If markets evolve in a fashion similar to 2000-09 where retirees suffered large negative returns on two separate occasions, established withdrawal rates may prove detrimental impairing retirees’ ability to sustain originally planned withdrawals and thus lifestyles. Lower stock holdings (more in line with 35-40 percent as opposed to the more common convention of 50-60 percent) for the first few years or until more desirable (lower) stock valuations avail themselves will moderate the risk of significant loss. See stress-test “B” below.