That was one of the conclusions reached by the authors of a new paper, “A More Dynamic Approach to Spending for Investors in Retirement,” from investment and retirement services provider Vanguard.
The paper, authored by Colleen Jaconetti, Francis M. Kinniry, Jr. and Michael A. DiJoseph, examines two common post-retirement spending strategies and recommends a third approach. The first strategy is termed as “dollar amount grown by inflation,” where the retiree chooses an amount of spending in the initial year of retirement and the amount is increased annually to account for inflation.
The second strategy is called “percentage of portfolio” and bases the retiree’s annual spending on a stated proportion of their portfolio’s value at the end of the prior year. The third approach, called “percentage of portfolio with ceiling and floor,” advocates relatively consistent post-retirement spending, while remaining responsive to the financial markets’ performance to help sustain a retiree’s portfolio.
The paper recommends flexibility as a prudent spending strategy. Periodically evaluating their income strategies, assessing their portfolios and considering whether alterations are needed can help people with their long-term financial planning.
Both retirement plan sponsors and plan advisers can assist people in carrying out strategies related to their post-retirement spending.
“One way that plan sponsors can help out participants is to talk to them about how much they can spend once they retire,” Jaconetti, senior investment analyst for Vanguard’s Investment Strategy Group, told PLANSPONSOR. “Help them to create a paycheck for life.” In addition to helping participants determine how much they can spend annually once they retire, plan sponsors can also help educate participants about how to set up a portfolio and the asset allocation of that portfolio.
“If participants can accept fluctuations in spending due to the changing performance of the markets, they can figure out how to adapt their spending, cutting back in certain areas, for example, if the markets don’t do well that year,” said Jaconetti. She added that by putting guardrails around annual post-retirement spending, in order to factor in the aforementioned fluctuations, participants will have a cushion that will hopefully maintain adequate retirement income over the long term.
There are several things for participants to consider when it comes to both preparing for retirement and then for post-retirement spending, said Jaconetti. Maintaining a broad diversification of investments is helpful, as is taking a realistic look at life expectancy and working. “While life expectancy is something that people can’t control, they can look into working longer, which give them time to save more and ultimately result in a higher amount that can be spent during retirement,” she said.
As for retirement plan advisers can do, Jaconetti said once a participant is retired, advisers can help them with the logistics of rolling over their retirement plan balance and actually setting up a post-plan portfolio from which they can draw retirement income.
“Advisers can work with the new retirees to establish spending rules and figure out a schedule for reviewing and updating their portfolio, perhaps every six months or a year,” said Jaconetti. One approach to consider, said Jaconetti, is creating a money market account for the retiree and directing his or her Social Security, required minimum distribution and portfolio gains there.
A copy of the paper can be found here.