Rational Agents in an Irrational World: The Effect of Fraud Shocks on Retirement Portfolio Success Rates

Abstract

This paper quantifies the effect of fraud shocks on retirement planning outcomes. By using Monte Carlo analysis similar to that in the Trinity Studies of 1998, 2011, and 2015, the present essay estimates fraud effect assumptions on an annual basis to measure the devastation that fraud has on a retiree’s portfolio. It finds that, on average, a single, random fraud shock lowers the retiree’s chances of enjoying a successful retirement by 3%. The effect of serial fraud on portfolio success rates is much worse with zero instances of acceptability (i.e. 90%+ success) across all combinations of asset allocations, market returns, withdrawal rates, and distribution periods. In an irrational environment where fraud occurs, traditional retirement strategies—including the 4% rule—break down. These findings have important implications for financial planning practitioners, specifically the interaction between financial literacy, fraud, and retirement planning. This work also provides several promising avenues for future research.

Keywords: fraud, shocks, retirement, rational agents

JEL Classification: B13, C63, Y40