Determining Your Allocation at Retirement

by Charles Rotblut, CFA

Charles Rotblut will speak at the 2015 AAII Investor Conference this fall; go to for more details.

Determining Your Allocation At Retirement Splash image

The articles on retirement allocation in this issue by Jerome Clark and Josh Cohen present different strategies for the amount of stocks and bonds an investor should hold at retirement. Specifically, they disagree on whether investors should immediately increase their fixed-income holdings at retirement (termed the “to” strategy) or gradually increase their fixed-income holdings throughout their retirement years (the “through” strategy).

The disagreement centers around the impact a bear market can have on one’s portfolio. As AAII’s John Markese pointed out last year in “Taking Aim at Your Retirement: A Look at Target Date Mutual Funds” (June 2009 AAII Journal), withdrawing money from a stock portfolio at the beginning of retirement when stock prices are depressed can have lasting negative implications on how long your money will last. This is particularly the case when the withdrawals are expected to be made over a shorter versus a longer time period.

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Charles Rotblut is a vice president at AAII and editor of the AAII Journal. Follow him on Twitter at
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Given this, it is important to be aware that Clark and Cohen used different time horizons for their studies. Clark assumed withdrawals will be made over a 30-year time horizon. Cohen opted for a shorter 20-year time horizon. However, it is not just Clark and Cohen who disagree on time horizons. As Markese pointed out last year, target date funds differ significantly on when, relative to the target date, the portfolio is moved to the final allocation.

So, which is the better strategy at retirement: gradually increase exposure to bonds beyond the date of retirement, or immediately increase the fixed-income allocation at the date of retirement? The answer depends on your personal situation.

How Much Did You Save?

One of the key aspects of retirement planning is how much money was saved prior to retirement. Clark’s article showed that following a more aggressive strategy during one’s working years resulted in a bigger nest egg at retirement than a more conservative strategy. The larger savings, in turn, significantly increased the probability of having enough money to last through a 30-year retirement period, assuming 4% annual inflation-adjusted withdrawals.

If the level of savings and requirements for income dictate a higher withdrawal percentage, the risks of running out of money rise significantly. Cohen calculated that an aggressive 6% withdrawal rate results in only a 42% probability of preserving savings for a 20-year period, even with a higher equity allocation of 60%.

The key point here is that retirement allocation strategies start before an investor retires. The greater the amount saved, the higher the probability that the wealth will last throughout retirement.

What Are Your Income Needs?

The next step is to determine your income needs in retirement. Specifically, what percentage of your portfolio will you need to withdraw on an annual basis and how long do you expect to make those withdrawals?

Both Clark and Cohen used a 4% withdrawal rate, with the annual income requirements adjusted upward for inflation. This means, over time, the actual dollar amounts withdrawn from the portfolio will increase.

Other factors to consider are health and expected longevity. A 65-year old with few health problems and parents who lived well into their 90s may need to rely on their savings for a longer period of time.

Inheritance and Charitable Gifts

Neither Clark nor Cohen discussed situations when assets are expected to exceed the income requirements of the retiree. Such investors face both the need for short-term income and the desire to continue building long-term wealth—to be given to family, charity or both. In such situations, two strategies for managing a portfolio should be considered.

The first is to designate the portion of your portfolio needed for retirement expenses. The allocation strategy for this portfolio would be more conservative, with a greater emphasis on bonds and income generation. A gradual increase in bond allocations, as opposed to abrupt change, can more easily be followed since the overall level of savings significantly exceeds projected income requirements.

The second is to designate a portion of your portfolio for long-term wealth. A more aggressive allocation, meaning a higher percentage invested in stocks, should be followed since there are no short-term income requirements.

Consider Your Individual Needs

There is no strategy for retirement allocation that universally applies to all investors. The best place to start is to determine your needs?specifically, when you will need the withdrawals, how much income will be required, how long the income will be needed and how much you have saved. You can then start to determine your allocation strategy.

Charles Rotblut, CFA is a vice president at AAII and editor of the AAII Journal. Follow him on Twitter at


George from TX posted over 3 years ago:

Do the retirement withdrawal strategies that assume a 4% annual withdrawal assume taxes are paid before calculating the 4% amount, or do the taxes also need to be paid from the 4% annual allocation?

Richard from IL posted over 3 years ago:

Are dividends that you receive in cash counted as part of the 4% withdrawal rate, or is only the redemptions that you withdraw from funds/etfs/stocks count as part of the 4%?? In other words, is only the money taken from your capital( invasion of principal) counted towards the 4% withdrawal rate?

Tom from GA posted over 3 years ago:

Withdraw to me is the amount needed to live and enjoy minus current incomes ie. pension social security, interst and dividend income. If you planned correctly withdraw from your nest egg will only be needed in time of large purchase or income shortfall . my nest egg continues to grow as well as my savings even in retirement. and my yearly income is larger than my living expenses. I live very very well. I tell people to always live well under your means during your working life, so you can truly enjoy and live above your means during your retirement. Don't keep up with the Jones, most of the Jones will never retire.

John from CO posted over 3 years ago:

Whatever the required necessary income no. is, the overall total can include dividends, social security, pension, etc. It is my preference to use this as income rather than disturb the principal. The end result is you need 'X" number of dollars to live on. Whether you want to withdraw 4% plus dividends , etc. or withdraw a certain percentage, is just a matter of semantics.

Don from VA posted over 3 years ago:

I think a safe strategy is to withdraw a fraction of your principle each year. For example, if you plan to live another 30 years (and who doesn't) then withdraw 1/30th of the total asset value the first year. And then 1/29th the second year. And 1/28th the third year. And so on. This means you will run out of principal the 30th year which is when you plan to die. (Well you plan to die sometime don't you?) This means your withdrawals will be "adjusted" by performance and you will have to live within your means. Any surprises here?

Live good and donate to charity or relatives in the good years and cut back in the down years. The main advantage of this approach is to not worry about what the future brings. It adjusts your life style and spending to your situation. Just like you have done all your life. Simple but elegant.

Ken from CA posted over 3 years ago:

Can you direct me to an article on fixed annuities. I'm talking basic information.

Thank You

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