REPOSTED FROM -MARKETWATCH – MARCH 4, 2014
How much can I afford to spend in retirement? For all but the wealthiest, that’s the big question. For guidance, many retirees rely on the so-called 4% rule, which says you can withdraw 4% from your savings in the first year of retirement, and then give yourself an annual raise to account for inflation each year, without running a big risk of running out of money.
But as asset values plummeted in 2008—and interest rates have remained at ultra-low levels—the 4% rule has been thrown into doubt. The big concern: For those with the bad luck to retire into a bear market, the danger of running out of money rises—even if one faithfully adheres to the 4% rule.
In response, finance wonks have been searching for better mousetraps. Some of the proposals include substituting immediate annuities for bonds in order to raise the safe withdrawal rate; adjusting withdrawals in response to changes in stock market valuations; and dividing your account’s balance by your life expectancy—a method that will ensure your money will last. Now, J.P. Morgan is entering the fray with an alternative to the 4% rule of its own. The good news: You’re likely to be able to withdraw more than 4% of your account’s balance each year. The bad news: The method is fairly complicated to implement, so you will need the help of a financial adviser (which is good news for J.P. Morgan, which employs a network of them.)
The bank’s “Dynamic Withdrawal Strategy” adjusts both withdrawal rates and a portfolio’s investment allocations annually, in response to changes in both the markets and a retiree’s personal circumstances.
Under the method, a 60-year-old couple with $500,000 in savings and $50,000 in guaranteed annual income—from sources including Social Security, pensions and annuities—can afford to withdraw 5.4% of their account’s balance. As they age, their withdrawal rate will rise—to 6.1% at age 65, 6.9% at 70, 8.1% at 75, 9.8% at 80, 12.2% at 85, and 15.3% at 90. Those with more than $50,000 a year in guaranteed income can afford to withdraw a higher percentage of their wealth while those with less should withdraw a smaller percentage.
J.P. Morgan also recommends that retirees rethink their asset allocation strategy over time. As retirees age, they should decrease their equity allocation. (Those with higher guaranteed incomes can afford to keep a bigger portion of their nest egg in stocks at every age than those with lower guaranteed incomes.)
While the 4% rule produces a steady income in retirement, it also can bring “significant risks” of either running out of money (for those who experience bear markets in the early years of retirement) or of living below one’s means (because it’s important to ensure something will be there if you live a very long life), according to J.P. Morgan.
J.P. Morgan says those who take its approach will experience income fluctuations. But the model “offers the potential for greater payouts” early in retirement, “when retirees are most likely to be able to enjoy them,” says Katherine Roy, J.P. Morgan’s chief retirement strategist. “We are in an environment now where retirees are being advised to be very conservative early in retirement and are sacrificing lifestyle out of fear of longevity risk.”