Reducing Sequence Risk Using Trend Following and the CAPE Ratio
34 Pages Posted: 16 Apr 2016 Last revised: 10 May 2017
Date Written: May 9, 2017
The risk of experiencing bad investment outcomes at the wrong time, or sequence risk, is a poorly understood, but crucial aspect of the risk faced by investors, in particular those in the decumulation phase of their savings journey, typically over the period of retirement financed by a defined contributions pension scheme. Using US equity return data from 1872-2014 we show how this risk can be significantly reduced by applying trend-following investment strategies. We also demonstrate that knowledge of a valuation ratio such as the CAPE ratio at the beginning of a decumulation period is useful for enhancing sustainable investment income.
Keywords: Sequence Risk, Perfect Withdrawal Rate, Decumulation, Trend Following, CAPE
JEL Classification: G10, G11, G22
Suggested Citation: Suggested Citation