Retirees should invest bolder as they grow older, study suggests

Retirement is a longed-for milestone in most workers’ lives, but the transition requires a delicate financial balance. Retirees must anticipate life expectancy, inflation, recurring expenses and more as they manage their investments to ensure their life savings last through their golden years.

A study by Doug Waggle, professor of finance at the University of West Florida, and Pankaj Agrrawal, Nicolas M. Salgo, Professor of Finance at the University of Maine, simulated five potential approaches, or glide paths, to assess their performance amid fluctuating stock prices and other uncertainties. Their findings countered the approach that most financial advisers currently recommend.

Most financial advisors recommend that retirees follow decreasing glide paths, which gradually assume a lower-risk mix of investments over time. A common recommendation is that the percentage of stocks to bonds in a portfolio should equal 100 less than their age, meaning someone who is 100 should invest their entire portfolio in bonds.

Waggle and Agrrawal’s study, however, finds that an increasing glide path, which increases the proportion invested in stocks over time, may be optimal for most retirees who can count on Social Security.

The paper, titled “Guaranteed Income and Optimal Retirement Glide Paths,” which was published in the Journal of Financial Planning, reasoned that investment portfolios are more vulnerable in early retirement, when large losses may threaten their ability to provide lifetime income.

A more conservative approach early on reduces retirees’ vulnerability to this risk. Furthermore, as an individual progresses through retirement, the timeline for their income stream shortens and variables—like one’s desired income—become more certain.

Those developments, coupled with the portfolio’s growth during retirement, frees one to shift to a riskier investment mix that offers greater growth potential. The study’s authors caution, however, that this strategy is currently not widely accepted by financial advisers, who retirees should work with to develop their investment plans.

The aim of the study, Agrrawal said, was to explore the tradeoffs retirees and financial planners have to make as they choose an investment strategy for a given retirement portfolio.

The paper also examined the impact of factoring in Social Security payments into the withdrawal plans for their retirement savings. Including guaranteed income in a retiree’s portfolio reduces the amount and importance of an ongoing income stream from investments, which frees them up to focus their portfolio on building wealth.

This approach, the study found, particularly benefits risk-averse retirees who wish to leave an inheritance behind as a portfolio that factors in guaranteed income will have higher starting allocations in stock.

“The paper takes a break from the classic models of post-retirement asset allocations; the inclusion of Social Security payments has significant implications for the equity-bond mix. Utilizing Monte Carlo modeling, we find that increasing glide path equity allocations over time is optimal for the retirees’ wealth function,” Agrrawal said.

The research by Waggle and Agrrawal used computer models to run thousands of potential scenarios through these paths that accounted for common differences among retirees like guaranteed income, initial savings, risk aversion and whether they wish to leave assets to their heirs.

The duo also analyzed how each of the paths—increasing fast, increasing slow, constant, decreasing slow, decreasing fast—performed with varying withdrawal rates.