Outliving Your Savings

Let's say you have $1,000,000 invested (60% S&P 500 Index / 40% Lehman Brothers Government Bond Index). You retire and want to withdraw an inflation-adjusted 5% annually for living expenses.

You're set, right? After all, stocks return 10% a year, and Government Bonds nearly 6%....

The graph below shows a Monte Carlo simulation of 1,000 such retirements:

Uh-oh! Fully 12% of these possible futures lead to your running out of money before you die -- like those on the unlucky red path that literally falls off the bottom of the chart. In some instances, this happens in as little as 13 years.

Was this the kind of gamble you were planning to take with your retirement?

From Nest Egg to Goose Egg

Early retirement is by far the most dangerous time for retirees. A big loss here creates insuperable obstacles for your savings to overcome.

This chart shows the results of 1,000 random diversified retirement portfolios and the chance that they would run out of money within 25 years. Note that if your nest egg is down 10% from its original value a few years into retirement, your odds of going broke skyrocket.

Strategies

While our books provide an excellent guide for the ordinary retail investor, our high net worth clients can do better.

Better Diversification: Virtually every portfolio that comes across our desk is woefully underdiversified, exposing its owner to needless, uncompensated risk. At Conservative Wealth Management, we divide retirees' assets into two broad strategies with low correlations between them: investing a portion for capital appreciation, and a portion for income. This allows us to pull more of your current living expenses from whichever side is doing better that year.

A Better Capital Appreciation Strategy: Here we use our proprietary DFA asset allocation model to access global equities with a value and small-cap tilt, balanced by short- to intermediate-term global bonds. These portfolios have superior expected risk-reward characteristics to those outlined in our books, so your money works harder for you, even after expenses.

A Better Withdrawal Strategy: Look what a difference it makes whether you take the money from the best performing asset class each year (Sell High) versus withdrawing the money evenly from each asset (Sell Evenly).

The chart below covers 1,000 Monte Carlo scenarios with $1000 invested into four asset classes:

When income is needed, we break off a piece of whatever appears to be the most overpriced assets in the growth portfolio and sell it. A strategy this simple could vastly prolong the life of your nest egg, leaving more money for your children or for your estate.

A Better Income Strategy: We select individual high dividend stocks, real estate investment trusts (REITs), as well as treasury inflation-indexed bonds (TIPS), as well as domestic and international bonds of varying credit quality and maturity that take advantage of the yield and credit curves. We also will use leveraged closed-end municipal bond funds (CEFs), emerging market bonds, high yield bonds, Master Limited Partnerships (MLPs), Royalty Trusts, and covered call income strategies for a small percentage of client portfolios, at times when the risk/reward tradeoffs make these worthwhile.