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  • Comparing a Bucket Strategy and a Systematic Withdrawal Strategy

    by Noelle E. Fox

    Comparing A Bucket Strategy And A Systematic Withdrawal Strategy Splash image

    One of the most important services financial professionals offer their investors may be a well-structured and sustainable retirement income strategy.

    Considering the many methods for structuring such a strategy, this process may be overwhelming to retirees and financial professionals alike. The risks in retirement are different from the risks an investor may have faced while accumulating retirement assets, and often a retiree needs help to thoroughly understand and evaluate these differences. A financial professional’s guidance can be of great help throughout this process.

    One approach to developing a retirement income plan is the bucket strategy. A bucket strategy segments retirement assets by certain categories. Categories may be based on the risk level of the assets, the needs or expenses these assets are expected to cover or the period of time in retirement when the assets are expected to generate income. The most widely used bucket strategy is the time-segmentation approach, which is used by almost one-third (28%) of financial professionals, according to the Financial Planning Association. This approach assigns each bucket to a defined time period in retirement, based upon the retiree’s risk tolerance and time horizon. It anticipates that the allocation will shift over time to traditionally more conservative asset classes as the retirement savings are drawn down.

    This article analyzes the potential advantages and shortfalls of the time-segmented bucket strategy, which we refer to here as simply the bucket strategy, by comparing it to the most common strategy in use—systematic withdrawals. The two strategies are compared based on the psychological and economic benefits they can offer a retiree.

    More on the Bucket Strategy

    While the bucket strategy will have buckets of funds designated for use in specific retirement time periods, there are other attributes that will create differences among particular strategies. Depending on the preference of the investor, the funds may be redistributed among buckets more or less frequently. Generally, most bucket strategies also have a target for how much cash and short-term investments to keep on hand for current spending needs—the basis for this target may differ by method.

    To better understand the bucket strategy, we demonstrate it with an example that utilizes three buckets, as shown in Figure 1. When initially established, the first bucket contains cash and cash equivalents and is intended to be utilized and contain sufficient funds to meet spending over the first five years of retirement. The second bucket is intended to meet spending needs in years six to 15 of retirement. It contains mostly fixed-income securities, which are likely to experience greater volatility than cash, but, because they are in the second bucket, the retiree has a longer time period to ride out market swings. The third bucket contains mostly equities, a traditionally more risky and volatile asset class. It is intended to meet expenses in the years beyond the 15th year of retirement, again providing opportunity to ride out swings with the intention of reaping the potential rewards.

    These buckets will need to be redistributed over time. At a regular frequency, the first bucket will need to draw from the second to continue to meet its intended use of covering expenses over the next five-year period. For the second bucket to continue to meet its intended use, it will need to draw from the third. Should market returns create sufficient balances to meet each bucket’s objective, a redistribution among buckets would not occur. The balances of each bucket would be analyzed at a regular frequency, and, if a certain target balance isn’t met, then a redistribution would occur.

    Psychological Benefits

    According to an AARP bulletin, the majority of people fear running out of money in retirement more than they fear death. It’s no wonder many people look to financial professionals for help as they enter retirement. While working with a financial professional on any type of retirement income strategy can help a retiree feel more confident in his or her plan, research conducted by HSBC has shown that the bucket strategy may provide some additional psychological benefits. A bucket strategy can address a human preference for smaller, simplified issues, according to finance professor Meir Statman. For retirees feeling overwhelmed by the many decisions they face as they enter retirement, a bucket strategy may help them divide what they see as one large, stress-inducing problem into smaller, more manageable pieces.

    A bucket strategy that links portions of money directly to goals may also promote self-control, according to the Retirement Income Journal. This can serve as a form of mental accounting, much like a budgeting method using envelopes. By setting aside a budgeted amount of money each month for specific purposes, like groceries, people may find it easier to stay disciplined and spend within a budget. With a bucket strategy, a retiree would use a smaller portion of his or her savings that is designated for income in the short term rather than the entire retirement balance. The designated bucket may help the retiree feel more in control, since creating a sustainable income stream from a large pool of assets can often be a daunting task.

    While creating a strategy for retirement can help inspire confidence and possibly reduce stress, a systematic withdrawal strategy may have fewer psychological benefits than a bucket strategy. Even when structured with a 4% to 5% withdrawal rate and asset allocation, systematic withdrawals lack the structure of a bucket strategy. As a result, a systematic withdrawal strategy tends to provide fewer psychological benefits. Because money isn’t segmented to directly linked goals, the plan may still feel overwhelming to a retiree. Viewing the total account balance rather than the smaller portion intended for short-term use may lead to more dramatic overreaction when account balance swings occur.

    An Economic Comparison

    It’s also important to compare economic benefits associated with each strategy. For example, for a less time-intensive retirement income strategy, a systematic withdrawal strategy from a target date mutual fund may be set up.

    With target date funds, the portfolio managers invest in generally more aggressive underlying assets, such as equities, when the target date, which is intended to be an individual’s retirement date, is far away. The portfolios gradually become more conservative by shifting their allocations from equity to fixed-income assets as the target date approaches. It is expected that the target date is the date at which the individual will begin withdrawing money. Once in retirement, target date funds generally assume the value of the account will be withdrawn gradually over time. Some funds continue to increase their allocation to traditionally more conservative asset classes beyond the target date, while others do not. Generally, neither the principal nor the underlying assets of target date funds are guaranteed at any time, including the target dates. Investment risk remains at all times.

    * No investment strategy, such as diversification or asset allocation, can guarantee a profit or protect against loss in periods of declining value. There is no guarantee a target date fund will provide adequate income at or through retirement.

    In this example, we consider a target date fund set up for investment through retirement, not just to the target date. The mix of investments gradually shifts to traditionally more conservative asset classes as the retiree ages.

    At a very basic level, a bucket strategy would replicate this outcome. Based on the established timeline, assets would shift from more aggressive buckets designed for long-term use to traditionally more conservative buckets designed for short-term spending needs. The short-term bucket is generally designed to provide a steady, inflation-adjusted income similar to a systematic withdrawal strategy from the target date fund. Structured correctly, these two strategies—a bucket strategy and systematic withdrawals from a target date fund—could have a similar result, as shown in Figure 2.

    In the real world, a bucket strategy will probably not perfectly mimic a systematic withdrawal strategy from a target date fund. In part, this is because a bucket strategy reallocates differently than a target date fund.

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    Bucket strategies redistribute funds only from the bucket containing more aggressive assets to less risky buckets, not the reverse. On the other hand, target date funds rebalance to a predetermined asset allocation. If high-quality, short-term bonds in the first bucket experienced a great year, the bucket strategy would likely not redistribute funds. The key is for the bucket to achieve its goal of maintaining cash on hand to cover the next five years of retirement. However, in the same scenario, a target date fund would rebalance some of the gains to other asset classes with potentially greater risk and return potential.

    Said another way, a bucket strategy sets asset allocation based on market movements, while a target date fund sets asset allocation based on a glide path intended for a certain investor age. For example, assume traditionally more aggressive investments performed very well in a given year, leading to large end-of-year account balances in the riskier portion of the allocation. If using the bucket strategy, funds would not redistribute. Redistribution would occur only if the shorter-term buckets were not meeting their intended objectives. On the other hand, a target date fund would rebalance back to the targeted asset allocation, likely reducing the large balance in the riskier investments. This difference will cause the asset allocations of the bucket strategy and target date fund to increasingly differ from one another over time.

    Customization may lead to other differences between the two strategies. In some situations, a retiree may prefer to redistribute among the buckets more or less frequently than a target date fund rebalances.

    * No investment strategy, such as diversification or asset allocation, can guarantee a profit or protect against loss in periods of declining value. There is no guarantee a target date fund will provide adequate income at or through retirement.

    A target date fund will likely have allocation targets that change annually. Another preference may be the specific target to set for cash and short-term investments. One retiree may consider five years of future income to be the right amount of funds to store in short-term investments for immediate use, while another might prefer a three-year horizon. This decision will have a large impact on how the asset allocation changes through retirement. To see how these key differences may impact income sustainability through retirement, variations of bucket strategies have been modeled against a hypothetical target date fund with systematic withdrawals. Both methods aim to provide a 5% initial withdrawal, increased by 3% each year to help offset inflation. We project the probability of still having remaining retirement funds as assets are drawn down from 15 to 35 years into retirement.

    The next two figures isolate the potential impact of two key bucket strategy levers: the frequency of redistribution and the number of years covered by the cash target.

    Figure 3 shows the differences created by varying the frequency of redistribution among the buckets. In each of the bucket strategies, the cash target has been held constant, aiming to always keep five years of future income in cash and short-term investments.

    In Figure 3, you can see the potential impact of two key differences between a bucket strategy and a target date fund.

    First, the bucket strategy redistributes among buckets, while the target date fund rebalances. In a bucket strategy, funds never move from a traditionally more conservative bucket to a more risky bucket. Accordingly, this strategy may tend to become conservative early, thus making it difficult to sustain income throughout retirement.

    Second, while the target date fund rebalances regularly, the bucket strategy may redistribute less frequently. Figure 3 shows that less frequent redistribution may help income sustainability. Less frequent redistribution may allow the bucket strategy to stay invested in traditionally more risky investments instead of redistributing to more conservative investments. Redistributing, especially at a higher frequency, may cause the bucket strategy to hold more cash and experience lower returns over the long term as compared to a target date fund.

    * No investment strategy, such as diversification or asset allocation, can guarantee a profit or protect against loss in periods of declining value. There is no guarantee a target date fund will provide adequate income at or through retirement.

    Next, Figure 4 looks at another key lever: the number of years covered by the cash target. The frequency of redistribution is held constant for this diagram, redistributing every three years. This way, the potential impact from a higher or lower cash target can be seen in isolation.

    In Figure 4, the bucket strategy shows better outcomes when a lower cash target is used. The lower cash target means fewer assets shift to more conservative investments, encouraging the portfolio to earn a higher average return over the long term and potentially creating better odds of meeting income needs throughout retirement.

    Figure 4 shows that a bucket strategy may perform better with a lower cash target, but it also shows that a systematic withdrawal from a target date fund could perform even better. Because a bucket strategy redistributes funds among buckets rather than rebalancing, it shifts the overall portfolio to a traditionally less risky allocation compared to that in a target date fund. Redistributing less frequently and setting a lower cash target may keep this shift from occurring too quickly, causing the bucket strategy to potentially perform more like the systematic withdrawal strategy.

    Of course, this isn’t an exhaustive analysis of bucket strategies. Should a retiree want to use either a bucket strategy or a target date portfolio with systematic withdrawals, there are myriad ways the strategy could be customized to meet his or her needs. A key takeaway, however, is that while you may expect the economic benefits of the more time-intensive bucket strategy to trump those of a systematic withdrawal approach, they may not. A systematic withdrawal strategy can be just as sustainable for the retiree and less time intensive.


    Both the bucket strategy and systematic withdrawal methods have pros and cons. While a bucket strategy may be more time intensive, it may also structure a regular retirement income plan check-up through the redistribution. The redistribution process sets a designated frequency to evaluate the portfolio. A simpler plan may go unchecked for long periods of time. A bucket strategy may also give the retiree more psychological benefits, if he or she feels that the buckets of money are easier to maintain when directly linked to goals. While a systematic withdrawal approach may make just as much sense financially, a retiree may simply feel more secure with a bucket strategy.

    The bucket strategy may also help extremely risk-averse investors, who may not elect to invest in any stocks, to take a more long-term approach to investing. As Figures 2 through 4 show, it may be necessary to have some retirement funds allocated to traditionally riskier investments to help support income through retirement. By segmenting the buckets by time of intended use, more risk-averse investors may feel more comfortable with a balanced portfolio.

    Problems Left to Solve

    Navigating through the new experiences and risks in retirement will often involve more than just developing a retirement income strategy. The strategies highlighted in this article naturally involve various forms of risk, which a retiree should discuss with their financial professional.

    Five key retirement risks include: longevity, market performance, withdrawal rate, inflation and health care.

    Both a bucket strategy and a target date fund, through thoughtful planning, may help to mitigate market performance, withdrawal rate and inflation risk; however, these risks are not completely negated. Diversification and regular rebalancing may decrease the impact of market volatility, but the risk of losing money will still exist.

    A financial professional might recommend a sustainable withdrawal rate, generally 4% to 5% with adjustments each year for inflation, but investors may not heed this guidance. While a good retirement income plan should recognize inflation risk, the strategies highlighted in this article cannot completely protect against drastic increases in the cost of living over a retirement that may last 30 years or more.

    Neither strategy will protect against the risks of longevity or health care. However, both strategies should include a reasonable, inflation-adjusted withdrawal rate, which seeks to protect against running out of funds at an old age. Either strategy could do more to account for longevity risk by incorporating a guaranteed product, like an annuity or longevity insurance. The risk of health care expenditures in retirement should be considered.

    In short, it’s important for retirees to have direct discussions with their financial professionals about the issues faced when entering retirement. While many risks can be mitigated, the retiree must understand that no plan is perfect and regular maintenance is crucial.


    A bucket strategy is one logical way to structure a retirement income plan. By creating budgets with categories of funds, investors may gain psychological benefits from the mental accounting behind the bucket strategy. While an investor may feel more secure with money segmented and designated for future use, the strategy may not provide financial benefits beyond what may be accomplished with a less complicated strategy. Structuring systematic withdrawals from a target date fund can be a straightforward strategy for creating retirement income for some investors.

    When considering a bucket strategy or systematic withdrawals for retirement income, certain trade-offs should be considered. A bucket strategy can be time intensive to implement and maintain; however, it encourages regular maintenance of the retirement income strategy, which is critical. For an especially risk-averse retiree, it may allow acceptance of a more risky portfolio. No product or strategy is the single best choice for all retirees. Financial professionals play a critical role during the transition into retirement, discussing the new risks a retiree faces and helping structure a strategy to help the retiree receive income he or she needs through retirement. The retirement income strategies financial professionals structure for investors—whether they use a bucket strategy, a systematic withdrawal strategy or some other method—must be based on individual investor needs and risk tolerances. The end result is that, with the help of a financial professional, retirees may spend less time worrying about income sustainability and more time enjoying their well-deserved retirement years.

    Noelle E. Fox is a practice leader in the Retiree Services Division of Principal Financial Group.


    Dave from WA posted over 4 years ago:

    In a two bucket strategy, with dividend paying stocks as the income generator, would you put them in bucket 1 as basically the "cash generator" and put other long term growth funds in bucket 2?

    Do people typically maintain separate accounts for the "buckets" or just separate them on paper?

    Charles from IL posted over 4 years ago:

    Dave, though dividend stocks do generate cash, they also fluctuate in value. The idea behind the three-bucket strategy in this article is that you have a certain part of your portfolio managed in a very conservative manner with the primary goal being capital preservation. As far as accounts, you can use one account and separate the balances into buckets. It takes more discipline than having more than one account, but it can be done. -Charles Rotblut, AAII

    Jerry from FL posted over 4 years ago:

    What about a systematic withdrawal of say 4 to 5% on the remaining balance in the account instead of adjusting for inflation? The balance could be up or down from year to year.

    Alan from IN posted over 4 years ago:

    This is the best concept going for retirement, and I have used it for years. Detail of what investments should go in the buckets can be found in Ray Lucia's book "Buckets of Money"!

    Charlie from WA posted over 4 years ago:

    I think of the buckets in a slightly different way which is that each represents the source of funds for that particular period of time. This causes me to think about required minimum distributions, social security, rental income, dividends,etc in terms of how each contributes to the income I will need over time. I have not thought so much in terms of the buckets flowing one to the next but rather as each providing for retirement at that point in time - kind of like separate retirements.

    I do find the idea of buckets generally a bit liberating in that I can have a long and short term focus and include riskier assets in my longer term thinking.

    David from OR posted over 4 years ago:

    I recall reading several studies of withdrawal rates under simulated market conditions and comparing various asset allocations. My recollection is that a 4-5% withdrawal rate risks running out of money for approximately 5-10% of investors after 30 years. That strikes me as too large a risk for such a disastrous event. A withdrawal rate of 3.5-4% largely eliminates that risk.

    Ranbeaux from LA posted over 4 years ago:

    This is a little bit off subject, but a concept that I have found useful when discussing investing in riskier asset classes with risk-averse individuals is the concept of using the present value of your stream of annual Social Security payments. Say, for example, you are receiving $20,000 annually in S.S. benefits. If you assume a modest return of 4% over 30 years of payments, that stream of payments would have a present value of $345,840. Said another way, it would take $345,840 invested at 4% to provide you with $20,000 a year over a 30 year time frame. If you are a really risk-averse person, you could think of this $345,840 present value as a portion of your bond allocation that is generating an income stream that is fairly certain (let's not get into a discussion of the solvency of the Social Security system, please.) If you could think of this as increasing your bond allocation percentage, then you may be more inclined to invest just a little more in equities, which would likely improve your income sustainablity through your retirement years. The same concept can work for pension payments as well, athough most pension payments are not adjusted for inflation the way S.S. payments are. Of course, S.S. and pension payments also let you reduce your withdrawal percentage from invested assets, but if the present value concept allows you to step out a little more into equities, this may increase your probability of success in retirement.

    Richard from KS posted over 4 years ago:

    I am 75 and still working part time. My wife is 71 and still working full time. Total of $ 30,000 received annually from social security. We are allocated with 63% bonds and 37% equities. Only have around 2-3% cash. We have not begun taking distributions except mandatory social security distributions. Still contributing to Roth IRAs around $500 monthly. I find the 5 yr cash requirement for a bucket system way too conservative in my case because of extremely low interest rates presently. We plan to take 4% distribution of our portfolio in another year starting with taxable assets, then shifting to tax protected asets gradually. 40% of our bond portion consists of I- Bonds, which have a 3% base plus rate of inflation. Currently drawing between 6-7% in tax protected interest. Psychologically they are my tranquilizer. Lucky because they were purchased in 2001 when base high. Each year I work with a Vanguard CFP to ensure we are on target with our allocation. Otherwise, manage own portfolio with help of financial books and literature. Follow Bob Brinker's advice also.

    David from MD posted over 4 years ago:

    With all due respect to the author and the concept of buckets, I find it hard to accept as a credible or reliable way to fund what may be 30-40 yrs of withdrawals. The main reason for not buying into this strategy is very simple. The rates of return on all buckets is variable and subject to whims of the stock markets and completely out of my control.
    Retirement is completely about income replacement. My income in retirement HAS to be there. Most likely, once my wife and I quit, there most likely is no going back so I am not going to assume that the market is going to give me some nebulous rate of return.
    So, my strategy is to build accounts and create income that is one, tax free and two, guaranteed. There will be no hand wringing when markets crash or when taxes are increased on retirement assets both of which are inevitable.

    Ted from NY posted over 4 years ago:

    Bucket strategy? Glide path? These are not answers to questions I have. I have a pension, I have social security, and I have a budget. I have retirement assets that must supplement my income indefinitely, adjusting for inflation.

    Part of my assets have to be in cash, and more volatile investments require a longer time horizon. These things have always been true; I don't see how retirement makes them different. And every year my target allocations change based on dwindling reserves, while my actual allocations change because of market fluctuations. If you want to be useful, help me with these things.

    Barry from TX posted over 4 years ago:

    Noelle, thank you for this insight into the psychological factors that HEAVILY influence retirement planning and decision making. Everyone believes they make completely rational decisions about money. Behavioral economic research has 30 years of research data that demonstrates emotions drive investment decisions at least equally. BE research proves that the drive to avoid losses is much greater than the drive to increase gains. It's all about "betting" on risks that you cannot control. No one can predict the future, only live through it. Building a strategy to address the future is ALWAYS based on the past. That's why EVERY INVESTMENT DOCUMENT says "past performance is not a reliable indicator of future performance."

    James from CT posted over 4 years ago:

    I'm not clear on the reason why assets are never redistributed from the less volatile buckets to the more volatile buckets. The first two buckets are sized by the requirement for a particular dollar value in each; any excess would go into the third bucket. This would tend to eliminate the "gradually growing more conservative" effect and reduce the performance penalty of the bucket technique. I don't see the need to have more in the first two buckets than is necessary to satisfy the withdrawal requirements for the time periods that they are designed to cover.

    Melvin from NH posted over 4 years ago:

    The "bucket" is an interesting concept. I am now 85. Both wife and I have pensions and great health benny's. Recently have decided to have a pro-advisor give us a hand w/800k plus and almost this in liquid assets. I love the DRIPS that I started some 45 yrs ago, this plus actively trading has put where we are today. Now hope to accumulate some more to aid our great-grandchildren through college. At our ages the bucket is a little late for us as we have done pretty well by ourselves. Great for younger ones.

    Robert from CA posted over 4 years ago:

    For me, buckets are time periods from now to life's horizon. I pick a period that is from now to ten years out (my period that would safely dodge the longest bear market). Then I methodically fund that "bucket" by selling riskier assets safely ahead of need. Lots is written on these issues. Advisors are well prepared to advise us on these issues.

    In practical terms, my investment risk considerations are affected primarily by two factors: 1) the financial floor of my secure income stream (salary, social security, pension, rental property) and 2) my capacity to spend dependent on my health and related ability to spend or conversely need to spend for care. I believe investors would be well served by a prolog that covered these points in any financial planning advice. These factors may shift one's plans from spending everything on a life annuity and getting a "for life" reverse mortgage on the house to continuing the working life buy low, sell high strategy. With buckets and budgets fitting in between. I wonder what percentage of us are in that "in-between" category...

    Jim from MI posted over 4 years ago:

    hard to evaluate the comparisons between target+systematic withdrawal vs buckets without more information of how the comparisons were done. Was it MC (with what assumptions)? or historical series as Bengen did--if so what years?

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