Floor and Upside Investing in Retirement with Real Instruments

Abstract

I investigate optimal asset allocation, gradual SPIA purchase decisions, and consumption decisions in retirement using various combinations of stocks, nominal bonds, real bonds, nominal SPIAs, and real SPIAs. I use a utility function that is intended to be representative of a retired individual's need for an income floor and desire for upside potential. I find a small advantage for the addition of real bonds to a stocks/nominal bonds portfolio. I find real SPIAs offer a performance advantage over nominal SPIAs at all but advanced ages. Real SPIAs are also easier to use than nominal SPIAs. The addition of real bonds to a portfolio that includes SPIAs offers little advantage.

Keywords: single premium immediate annuity, SPIA, inflation indexed SPIA, inflation protected security, TIPS, gradual annuitization, asset allocation, consumption, stochastic dynamic programming