Data and Research

Shaping Retirement Income Takes a ‘Dynamic’ Effort

Vanguard researchers recommend retirees build a balanced, diversified investment portfolio that focuses on total return rather than income.

By John Manganaro editors@plansponsor.com | September 21, 2016
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A new white paper from Vanguard researchers provides a helpful framework for investors to consider as they look to turn an equity investment portfolio into a sustainable and consistent source of income.

“For many retirement-oriented investors, developing and overseeing a retirement spending strategy can be a complex undertaking, further complicated by increasing life expectancies, disappearing sources of guaranteed income, and historically low yields on bonds,” Vanguard explains in the paper, “From assets to income: A goals-based approach to retirement spending.”

The basic tenants of the framework go as follows: For retirees who hold the majority of their assets in tax-deferred accounts, assets can fairly easily be turned into income by setting up an automatic withdrawal plan from their current holdings or purchasing an investment that is specifically designed to provide regular distributions. For other retirees, where taxable assets are a meaningful portion of their portfolio, working with an adviser to develop a unique goals-based strategy can add significant value.

Under both approaches, Vanguard researchers advocate for tailoring spending to a retiree’s unique goals using a “dynamic spending" rule under which annual spending is allowed to fluctuate based on market performance, but “smoothed” by applying an annual ceiling and floor to the amount. It goes without saying that maintaining a broadly diversified retirement portfolio will be a key part of this approach, researchers posit.

The Vanguard researchers recommend building a balanced, diversified investment portfolio that focuses on total return rather than income. This portfolio, as far as possible, must then be ramped down via a tax-efficient withdrawal strategy.

“With many investors holding taxable, tax-deferred, and tax-free accounts, Vanguard researchers suggest a withdrawal order strategy designed to minimize taxes, as well as to potentially increase the spending amount and a portfolio’s longevity,” the paper explains. “The stakes in retirement are high, and the impact of suboptimal decisions can be severe, particularly taking into account the unknowns, such as market returns, life span, and health issues.”

“Vanguard’s framework can help investors negotiate the inevitable trade-offs between spending sustainability and stability,” adds Colleen Jaconetti, senior investment strategist at Vanguard and co-author of the paper.

NEXT: More detail on dynamic withdrawals 

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