Modern Portfolio Decumulation: A New Strategy for Managing Retirement Income

Abstract

In retirement, investment portfolios must produce a stable and steady stream of distributions over an uncertain life span, and often must also fund future wealth goals, such as for gifts and bequests. The conflicting objectives gives rise to what may be termed the decumulator's dilemma. Typically, longevity risk is managed either by annuitization or in the spending plan (by reducing spending in the event of poor market performance or outliving the plan). An alternative method is proposed for managing it in the investment portfolio. A multiple period cash-flow-based investment framework is described that incorporates a dynamic asset allocation strategy and uses the cost of lifetime annuitization as a hurdle for managing longevity risk in the portfolio. By transforming longevity risk into investment risk and actively managing it in the investor's portfolio rather than the spending plan, this approach is particularly useful for investors with a strong desire to maintain a given standard of living.

Keywords: Retirement, Decumulation, Distribution, Dynamic Asset Allocation

JEL Classification: G11, G22, G23, J26