Retirement should be fun. A time to celebrate a hard-worked life and to see the world in a new way—perhaps through traveling abroad, spending time with grandchildren, or exploring a new hobby. But it can also become a time full of anxiety with questions such as “Will I have enough funds to last the rest of my life?” or “Should I be spending more now so that my hard-earned money doesn’t go to waste?”.
Financial advisors can help alleviate this anxiety for their clients by introducing Dynamic Retirement Spending Strategies into their plans. In a time where nothing is certain, flexible strategies that adapt to market, behavioral, and life changes help boost your clients' confidence in their retirement plans.
Static Strategy Shortfalls
While static retirement strategies often adjust for an estimated inflation rate, they are unable to react to some of the biggest challenges of retirement planning: unknown market returns; the unknown sequence of these returns; unknown future inflation rates; and longevity—the number of people in the US living to 100 is expected to quadruple by 2050(!). Static strategies also do not account for changes in spending behavior over the length of retirement.
Advanced Retirement Spending Strategies
Staged Spending: Go-go, Slow-go, No-go
A staged spending strategy (introduced by Michael Stein in “The Prosperous Retirement”) allows advisors to manage spending levels by age, often referred to as go-go, slow-go, and no-go. Typically, a client has greater expenses in the first few years of retirement when they are most active (go-go) and spending slows down as the retiree transitions throughout retirement (slow-go and no-go). It is a simple approach that accounts for the behavioral aspects of aging and impact on expenses.
Retirement Spending Smile
Another advanced option is retirement spending smile, articulated by David Blanchett. Research suggests that retiree household expenditures decline slowly but steadily throughout retirement while healthcare costs increase over time. The below chart demonstrates how the combination of these two expenses resembles the shape of a smile.
Dynamic Retirement Spending Strategies
Dynamic Retirement Spending Strategies are designed to help advisors and clients adjust retirement spending based on market performance. They allow for mid-course adjustments to minimize overspending or underspending, and provide the flexibility needed in retirement financial planning. If your clients have ever had questions such as “How will I know when to reduce my spending?”, keep reading.
Guardrail Strategy
If a client’s portfolio declines to a predetermined value, retirement spending can be set to decrease automatically to keep the client’s plan on track. This strategy, founded by Guyton and Klinger, allows for the client to spend money when it makes sense to or adapt to a lower level of spending when needed.
As an example, if the portfolio return were negative, you would not apply an inflation adjustment for retirement expense (this is called the “Withdrawal Rule). If the current withdrawal rate were 20% greater than the initial withdrawal rate, you would reduce retirement spending by 10% if before age 80 (“Capital Preservation Rule”). If the current withdrawal rate were 20% lower than the initial withdrawal rate, you would increase retirement spending by 10% if before age 80 (“Prosperity Rule”).
Floor and Ceiling
With the floor and ceiling strategy, if the client’s portfolio increases, the client can consider the possibility of spending more without jeopardizing the retirement plan. This allows for retirement spending to fluctuate with market performance as a consistent retirement expense rate is reflected within a specified corridor. The spending will be reduced in years with down markets, but no lower than the specified floor (for example, 15% below the initial retirement expense). Conversely, the spending will be increased in years of strong markets, but no higher than the specified ceiling (for example, 20% above the initial retirement expense).
Are you ready to start planning with Dynamic Retirement Spending Strategies? Within RightCapital’s industry-leading tools, advisors can set the parameters for staged spending, spending smiles, guardrails, floors, and ceilings themselves. Advisors will have maximum flexibility to model spending with as much nuance as investment returns within 1000 Monte Carlo trials. Ease your clients’ minds with RightCapital’s easy-to-use software that helps you create plans clients can understand.
To learn more about how RightCapital can help you demonstrate Dynamic Retirement Spending Strategies for your clients, schedule a demo today.