1. What are Key Factors inRetirement Distribution Planning?In a World with Longevity Risks, Failure Rates,Market Sequence Risks, and Superannuation Risks. Larry R. Frank, Sr. MBA, CFPBS cum laude Physics Registered Investment Adviser (California) Author, Wealth OdysseyPresented to Financial Planning Associationof Northern California 14 September 20121 16:19

2. C-141 Cockpit: Levers and gauges Everything is important, otherwise it would not be there. What you pay attention to depends on what you are doing and the situation (normal or emergency). Obviously yoke, throttles and rudders, but those need refined measurements to be useful.How do you fly through three dimensions? 3. C-141 Cockpit: Levers and gauges EMERGENCY PROCEDURES!You cut consumption during anFuel Consumptionengine emergency.(Withdrawal Rate) But not sensitive enough so need Another instrument? Attitude indicator. Which way is up? Attitude and airspeed interact with each Airspeed indicator. other. Too Slow stall and crash. Too Fast run out of fuel and crash. 4. As Planners, what levers andgauges do we have? What can a planner really control for retiree (duringbad markets)? Q1: When Markets go down: Does changing the portfolioallocation work? A1: No. Market timing doesnt work (more on this shortly). Q2: When markets go down, does changing thewithdrawal dollar amount work? A2: Yes. Most effective method to determine success or failure. Q3: Are buckets useful? A3:A 3 bucket scenario is no more effective than a 2bucket scenario, etc.. Sum of buckets equals a total allocation.However, buckets are effective to address behavioral aspectsfor retiree and to allow time to transition their spending. 5. Evolution of ResearchConcepts today come from research summarized in this presentation. Post Peer Review. Publication Date TBA. 6. The Problem with 4%A structural problem with pensions, immediateannuities, and first generation "safe withdrawal rate" isa disconnect between benefits paid (fixed or fixed withCOLAs) from the underlying asset values required tosupport those promised benefits.There are consequences to this disconnect, which we willdiscuss shortly.6 16:19 7. The Problem with 4% You cant tell one rate from another. Is a proper rate 4%?Or 4.5? Or some other value?In other words, withdrawal rates all look the same. 8. The Problem with 4% First Generation research tries to shoehorn all retirees into one answer (initial 4% and then add inflation) i.e., a static solution. Ignores: Time (which is dynamic) Age changes with time (result: expected longevity changes) Portfolio balances change with time (market effects)Total Portfolio Value ($X) X Withdrawal Rate (WR%) = Annual Withdrawal ($Y) 9. Is withdrawal rate a good variable to use forretirement decision rules?WR% = $Y / $X$Y =Dollars WithdrawnPoor Returns =WR%$X = Portfolio Value 1 Market Returns Good Returns =WR%Withdrawal Rate WR%Depends upon: Shorter Periods = WR% 2 AgeLonger Periods = WR% 1 Sequence Risk Paper 2010 (Probability of the Portfolio) 2 Longevity = Dynamic Distribution Period Paper 2012 (Probability of the Person) These 2 factors will be a theme throughout. Answer: No 10. Past perspective of Simulation (Calculation) resultsGraphs and figures create the illusion of knowing future outcomes.We will see the range of possible futures, graphed later in the presentation,that represent how the future may unfold with uncertainty (hint: we dont know). X% First Generation Perspective: Safe Withdrawal Rate applies through out the distribution period, i.e., a Calculate-and-forget perspective. Reality is not static as the situation changes, so do the assumptions and answers therefore solutions are dynamic 10 16:19 11. Second Generation: 3D & Dynamic perspective of Simulation (Calculation) results This is all a simulation (Calculation) tells us (We do not know how the future will unfold). Retirees are transient This is the solution to the equation or simulation.they change positionw/in model as marketschange and as they age. We need a model thatWR% explains retirement for ALL retirees (ages, allocations and withdrawal rates) when you realize that ALL retirees co-exist at the same time. We will see what this perspective looks like in 2 slides. 12. Resolving the 4% problem in adynamic world What is the key instrument, or value, to focus on? Probability of Failure (POF) rates Defined here as the Percentage of simulations that FAIL to reach the end of the simulation period You will see later that simulation periods are dynamic to reflect the reality of aging. Inside a 3D Model - Dynamically (annually recalculated, serially connected) Combines Monte Carlo probability (probability of the portfolio) with Longevity probability (probability of the person) 13. All Points on each Surface (membrane ) are the SAMEThree Dimensions Probability of Failure rate (POF); i.e., withdrawal rate changes, BUT POF the same=>need to know POF in order to make sense of any withdrawal rate reference.5% POF Surface 25% POF Landscape11.00%-12.00% 11.00%-12.00% 12.00% 12.00% 11.00% 10.00%-11.00% 11.00%10.00%-11.00% 10.00% 10.00% 9.00%9.00%-10.00%9.00% 8.00%9.00%-10.00% 7.00%8.00% 6.00% WR%8.00%-9.00% 7.00% 8.00%-9.00% 5.00%6.00% WR% 4.00%7.00%-8.00% 5.00%4.00% 7.00%-8.00% 3.00%3.00% 2.00%6.00%-7.00% 2.00% 6.00%-7.00% 1.00%1.00% 0.00%5.00%-6.00% 0.00% 5.00%-6.00%0%0%30% 30%60%10 60% 90% 30 204.00%-5.00%10 90% 4040 30204.00%-5.00%3.00%-4.00% 3.00%-4.00% Allocation (Equity%)Years Remaining Allocation (Equity%)Time Remaining2.00%-3.00%2.00%-3.00%35% POF Landscape Not all retirees are the samePOF Landscape retirees co- 50% AND allexist (they transition through graphs based on 10.00%-11.00% 11.00%-12.00% 11.00% 10.00%markets & time they are transient). 9.00%-10.00% 12.00%11.00% 10.00%-11.00%9.00% 8.00%-9.00% 10.00%8.00% 9.00% 9.00%-10.00%7.00% 8.00%WR%6.00% 7.00%-8.00% 7.00%5.00%4.00%- They are different ages (Time Axis).8.00%-9.00% 6.00% WR%3.00% 6.00%-7.00% 5.00%2.00% - 7.00%-8.00%They have different allocations (Allocation axis).4.00%1.00% 5.00%-6.00% 3.00%0.00% 6.00%-7.00% 2.00%- They spend more, or less, than they should (WR% axis)4.00%-5.00% 1.00%0.00%0%5.00%-6.00% 30%0% 60% 15 10 30%40 35 30 25 203.00%-4.00%90% 60% 10 90%4030204.00%-5.00%Objective of the model is how to explain ALL 2.00%-3.00% 3.00%-4.00%Allocation % EquityTime Remainingretirees at ALL times. Time Remaining 1.00%-2.00% Allocation (Equity%) 2.00%-3.00%13 14. THREE TIME/AGE CROSS SECTIONS THROUGH LANDSCAPES Withdrawal rate goes up as age goes up. However, Probability of Failure (POF) pattern persists. Withdrawal rate goes up as Portfolio Values go down with declining markets (sequence risk). 15. Withdrawal Rates (WR%) by age with all points calculated at 10% POF.Looking at 3D graph along age axis so Allocations collapse into a single view.Notice allocations below 60% equity are all very similar with optimum allocationchanging slowly as the retiree ages. 15 16:19 16. Application: Sequence Risk Market goes down what do you do? Can pre-calculate portfolio values that represent possible future transient states that would have increasing POF AND the sustainable withdrawal Dollar amount that would bring POF back to the original, lower, POF. Life Expectancy Based on Outlive % and Retiring atAge 70 54Balanced allocation $3730 (Pre-tax; post fee) JointFemaleMaleOutlive Life% 80%85 74 70$X * WR% = $Y Target POF 5%31 20 16WR% = $Y / $XPortfolio % Decline Probability of Failure (POF) @ WR%:$X = $Y / WR% Required: WR%: POFSustainable @ LowestCurrent LTP Value= $1,205,6704.60% 5.00%POF @ Port. Value $1,097,713 9.0% 5.00%10.00% $ 3,381.00 SustainableIncreasing POF $1,006,555 16.5%5.40%15.00% $ 3,097.25 Dist. $$ permeans moving up$937,196 22.3%5.75%20.00% $ 2,881.35 month.through POFlandscapes or th1st: Set POF 4 : Set a distributionmembranes 3rd: DeterminesAmount (back to 5%2 nd: Determine WR%Equivalent Portfolio POF) EmergencyValue Based on longevity percentileProcedurefor current age(s) = Distribution Period Total Portfolio Value ($X) X Withdrawal Rate (WR%) = Annual Withdrawal ($Y) 17. There is a cost to high withdrawalrates (high POF rates). Cost comes from to many dollars withdrawn whichleads to a lower balance later. Since future market returns are unknown, reaching forreturn simply translates into higher volatility. Research showed Lower Probability of Failure(POF), i.e., Lower WR% => Higher Lifetime Cash flows and Higher Terminal Values Question in the past has been: How do you know when awithdrawal rate is too high? Answer: When POF approaches 30% (JFP 2011 paperusing control data methodology).17 16:19 18. WHAT IS ANOTHER KEY FACTOR TO DETERMINE THE WITHDRAWAL RATE? Answer: The Distribution Period (DP)What determines the length of the Distribution Period?Answer: Longevity.However, can not determine longevity just once because it changes slightly every year as the retiree(s) age. Therefore, this is a dynamic process you revisit each year as they age (example coming). 18 16:19 19. Probability of Longevity By surviving to an older age it becomes MORE likely You will survive to an even older age. Period Life ChartProbability of survival past a given mortality age from a base living age 100%90%80%70% "Target" ormortality age60%B 7550% 8040%A A 8530% 9020%9510%1000% 50 55 60 65 70 75 80 85 90 95 100A Typical retirement ages Living age Source: United States Life Tables 2003. National Vital Statistics Reports, Vol. 54, Number 14, revisedCommon 28 2007, Table 10: All races, 2003. MarchPerception of Probability of the PersonAge anchors 20. Longevity Dynamics Death is always before expected longevity for thecurrent age; in other words current age, and expectedlongevity age, BOTH change each year. Withdrawal Rate (WR%) WR%| Todays Age End Age Withdrawal Period (WP) How much time remains?20 21. Putting it all together Lets put it all together. 21 16:19 22. RETIREE CASH FLOWS AGES 60 (CONSUMPTION ORIENTED)Cash Flow DistributionMale Age60Retire YrPOF Outlive% Years Left Withdraw% Either Alive% CF Yr Age95th75th 50th25th5th Age 95thFemale Age601 10.00% 75% 254.50%100.00%161 $45,000 $45,000$45,000 $45,000$45,00061 $818,4622 10.00% 75% 244.65% 99.99%262 $38,058 $43,337$46,857 $50,437$55,55762 $755,589Equity%60%3 10.00% 75% 234.75% 99.96%363 $35,890 $42,716$47,838 $53,335$61,40163 $712,3994 10.00% 75% 224.90% 99.91%464 $34,908 $42,894$49,312 $56,274$67,52264 $679,488Start Value$1,000,000 5 10.00% 65% 234.75% 99.83%565 $32,276 $40,610$47,663 $55,492$68,37565 $647,6166 10.00% 65% 224.90% 99.71%666 $31,733 $41,002$48,950 $58,269$73,58566 $617,609 Outlive % for # of Years in Retirement 7 10.00% 65% 215.10%Annually Recalculated 99.56%767 $31,498 $41,974$50,677 $61,435$79,85167 $591,675 Min Max Outlive% 8 10.00% 65% 205.30% 99.36%868 $31,359 $42,797$52,687 $64,898$85,26768 $568,27805 4 975%65%9 1010.00%10.00% 65% 55% 19 20 5.50% 5.30%Serially Connected 99.09% 98.76% 9106970 $31,255 $28,944 $43,304 $40,844$54,208$52,003$67,624$65,729 $91,750 $91,1216970 $546,121 $523,9451015141955%50% 11 1210.00%10.00% 55% 55% 19 18 5.50% 5.75%(Key Years of Distribution Period reduce 98.35% 97.83%11127172 $28,817 $29,056 $41,621 $42,880$53,484$55,606$68,568$72,396 $96,446$103,0607172 $505,326 $490,2552025242940%30% 13 1410.00%10.00% 55% 55% 17 17 6.00% 6.00%slowly over time and it is 97.20% 96.43%13147374 $29,415 $28,353 $43,669 $42,421$57,652$57,169$75,545$75,498$110,083$111,8807374 $472,549 $459,7363035343920%10% 15 1610.00%10.00% 50% 50% 17 16 6.00% 6.30%this shorter period that increases 95.50% 94.41%15167576 $27,584 $27,790 $41,672 $42,491$56,083$57,954$75,175$78,787$113,158$122,1597576 $441,113 $420,686404410%17 10.00% 50% 156.65% 93.12% 1777 $27,976 $43,485$60,359 $83,013 $129,14877 $404,267454910%18 10.00% 50% 147.05%the Withdrawal rate based on longevity 91.60% 1878 $28,501 $44,550$62,762 $87,333 $136,92478 $384,92150 10010%19 10.00% 50% 137.50% 89.82% 1979 $28,869 $46,037$65,166 $91,774 $146,86479 $364,968 20 10.00% 40% 147.05%Tables percentiles) 87.76% 2080 $25,730 $41,745$59,248 $84,489 $135,99480 $349,461POF For Years Left 21 10.00% 40% 137.50% 85.39% 2181 $26,210 $42,977$61,525 $88,978 $145,20381 $330,796Min MaxPOF%22 10.00% 40% 137.50% 82.68% 2282 $24,810 $41,785$60,261 $86,935 $144,69882 $312,649 0 410%23 10.00% 40% 128.10% 79.60% 2383 $25,325 $43,625$62,981 $92,195 $153,77383 $295,318 5 910%24 10.00% 40% 118.75% 76.13% 2484 $25,840 $45,196$66,048 $96,920 $163,46784 $274,342101410%25 10.00% 30% 128.10% 72.26% 2585 $22,222 $39,662$58,582 $86,524 $148,71385 $261,516151910%26 10.00% 30% 118.75% 67.99% 2686 $22,883 $41,333$60,971 $91,319 $158,92986 $247,175202410%27 10.00% 30% 109.55% 63.33% 2787 $23,605 $42,840$63,955 $96,557 $166,19687 $225,877252910%28 10.00% 30% 109.55% 58.31% 2888 $21,571 $40,222$60,918 $92,021 $163,44188 $214,185303410%29 10.00% 30%9 10.55% 52.98% 2989 $22,596 $42,311$64,013 $97,408 $175,26089 $197,498353910%30 10.00% 20% 109.55% 47.43% 3090 $18,861 $35,576$54,203 $83,445 $151,39190 $186,769404410%31 10.00% 20%9 10.55% 41.74% 3191 $19,704 $37,087$57,235 $88,051 $164,31291 $171,812454910%32 10.00% 20%9 10.55% 36.04% 3292 $18,126 $34,741$54,026 $84,247 $158,04492 $159,81450 10010%33 10.00% 20%8 11.75% 30.49% 3393 $18,778 $36,430$56,523 $88,028 $166,77393 $143,358 34 10.00% 20%8 11.75% 25.20% 3494 $16,845 $33,397$52,554 $82,478 $158,98594 $130,389 35 10.00% 10%9 10.55% 20.33% 3595 $13,756 $27,361$43,596 $69,357 $134,10495 $120,980 36 10.00% 10%8 11.75% 15.97% 3696 $14,215 $28,583$45,923 $73,446 $143,02596 $110,821 37 10.00% 10%8 11.75% 12.20% 3797 $13,021 $26,231$42,839 $68,100 $134,65897 $102,123Model combines two sets of probabilities 38 10.00% 10%8 11.75%9.08% 3898 $11,999 $24,162$39,920 $63,912 $127,40998 $92,552 39 10.00% 10%7 13.40%6.57% 3999 $12,402 $25,573$42,000 $68,108 $136,75599 $83,235 Probability of the Portfolio (Market Sequences) 40 4110.00%10.00% 10% 10%7613.40%15.60%4.64%3.19%4041 100 101 $11,154 $11,771 $23,145 $24,257$38,431$40,721$62,886$67,435$127,286$138,028 100 101 $75,453 $65,557 Probability of the Person (Longevity)42 4310.00%10.00% 10% 10%6615.60%15.60%2.14%1.40%4243 102 103 $10,227 $8,890 $21,430 $19,044$36,152$32,281$60,571$54,400$125,696$112,240 102 103 $56,990 $49,821 44 10.00% 10%5 18.70%0.88% 44 104 $9,317$20,166$34,486 $58,917 $122,844 104 $42,312 45 10.00% 10%5 18.70%0.54% 45 105 $7,912$17,254$29,496 $50,583 $107,642 105 $35,795 46 10.00% 10%5 18.70%0.32% 46 106 $6,694$14,716$25,161 $43,801$94,372 106 $30,021 47 10.00% 10%5 18.70%0.18% 47 107 $5,614$12,719$21,721 $37,588$81,567 107 $25,249 23. RETIREE CASH FLOWS AGES 60 (BEQUEST ORIENTED)Cash Flow Distribution PoMale Age 60 Retire YrPOF Outlive% Years Left Withdraw% Either Alive% CF Yr Age95th75th 50th25th5th Age 95th 7Female Age 60 1 10.00% 10% 373.55%100.00%161 $35,500 $35,500$35,500 $35,500$35,50061 $827,962 $942 10.00% 10% 363.60% 99.99%262 $29,807 $33,893$36,619 $39,390$43,35462 $773,390 $91Equity% 60% 3 10.00% 10% 353.65% 99.96%363 $28,229 $33,522$37,498 $41,761$48,01963 $737,403 $904 10.00% 10% 343.70% 99.91%464 $27,284 $33,456$38,407 $43,769$52,43364 $712,271 $89Start Value$1,000,000 5 10.00% 10% 333.80% 99.83%565 $27,066 $33,976$39,810 $46,264$56,87365 $685,857 $886 10.00% 10% 323.85% 99.71%666 $26,405 $34,017$40,532 $48,165$60,68466 $661,370 $87 Outlive % for # of Years in Retirement 7 10.00% 10% 313.90% 99.56%767 $25,793 $34,250$41,270 $49,941$64,75167 $641,336 $87 Min Max Outlive% 8 10.00% 10% 304.00% 99.36%868 $25,653 $34,899$42,868 $52,688$69,03668 $624,755 $860410% 9 10.00% 10% 294.10% 99.09%969 $25,615 $35,339$44,136 $54,904$74,32869 $609,194 $855910%10 10.00% 10% 294.10% 98.76% 1070 $24,977 $35,110$44,569 $56,192$77,60270 $591,832 $85101410%11 10.00% 10% 284.20% 98.35% 1171 $24,857 $35,742$45,770 $58,516$82,03471 $578,621 $84151910%12 10.00% 10% 274.30% 97.83% 1272 $24,881 $36,538$47,227 $61,311$86,89272 $569,372 $84202410%13 10.00% 10% 264.40% 97.20% 1373 $25,052 $37,021$48,719 $63,654$92,37073 $558,728 $83252910%14 10.00% 10% 254.50% 96.43% 1474 $25,143 $37,414$50,213 $66,097$97,52274 $552,290 $82303410%15 10.00% 10% 244.65% 95.50% 1575 $25,681 $38,547$51,717 $69,039 $103,47075 $537,465 $81353910%16 10.00% 10% 234.75% 94.41% 1676 $25,530 $38,792$52,674 $71,344 $110,12876 $520,320 $80404410%17 10.00% 10% 224.90% 93.12% 1777 $25,496 $39,440$54,476 $74,586 $115,50177 $509,922 $79454910%18 10.00% 10% 215.10% 91.60% 1878 $26,006 $40,371$56,596 $78,473 $122,23278 $495,342 $7850 10010%19 10.00% 10% 205.30% 89.82% 1979 $26,253 $41,593$58,572 $82,091 $130,59379 $480,924 $77 20 10.00% 10% 195.50% 87.76% 2080 $26,451 $42,575$60,142 $85,375 $136,38480 $467,153 $76POF For Years Left 21 10.00% 10% 195.50% 85.39% 2181 $25,693 $41,882$59,634 $85,852 $139,19881 $451,607 $75Min MaxPOF%22 10.00% 10% 185.75% 82.68% 2282 $25,967 $43,501$62,343 $89,505 $147,83382 $435,370 $74 0 410%23 10.00% 10% 176.00% 79.60% 2383 $26,122 $44,631$64,123 $93,280 $154,65983 $420,244 $72 5 910%24 10.00% 10% 166.30% 76.13% 2484 $26,475 $45,962$66,736 $97,400 $163,07484 $400,958 $70101410%25 10.00% 10% 156.65% 72.26% 2585 $26,664 $47,155$69,263 $101,673$173,12085 $387,481 $69151910%26 10.00% 10% 156.65% 67.99% 2686 $25,767 $46,184$67,693 $100,877$173,76686 $375,606 $67202410%27 10.00% 10% 147.05% 63.33% 2787 $26,480 $47,567$70,484 $105,781$180,65387 $352,296 $65252910%28 10.00% 10% 137.50% 58.31% 2888 $26,422 $48,774$73,364 $110,041$193,47888 $341,888 $63303410%29 10.00% 10% 128.10% 52.98% 2989 $27,693 $51,219$77,029 $116,437$207,25789 $323,188 $60353910%30 10.00% 10% 128.10% 47.43% 3090 $26,178 $48,828$74,003 $112,926$203,16890 $309,368 $57404410%31 10.00% 10% 118.75% 41.74% 3191 $27,070 $50,589$77,451 $118,488$218,65191 $290,811 $55454910%32 10.00% 10% 109.55% 36.04% 3292 $27,772 $52,625$81,308 $125,833$233,81592 $273,483 $5250 10010%33 10.00% 10% 109.55% 30.49% 3393 $26,118 $50,199$77,262 $119,480$223,68593 $251,668 $49 34 10.00% 10%9 10.55% 25.20% 3494 $26,551 $52,005$81,234 $126,480$241,46394 $231,790 $45 35 10.00% 10%9 10.55% 20.33% 3595 $24,454 $48,110$76,017 $120,312$229,68695 $214,598 $42 36 10.00% 10%8 11.75% 15.97% 3696 $25,215 $50,239$80,179 $127,231$245,32296 $197,818 $39 37 10.00% 10%8 11.75% 12.20% 3797 $23,244 $46,044$74,740 $117,782$231,28097 $181,577 $36 38 10.00% 10%8 11.75%9.08% 3898 $21,335 $42,484$69,559 $110,494$218,10098 $164,481 $33 39 10.00% 10%7 13.40%6.57% 3999 $22,040 $44,949$73,245 $117,954$234,46299 $148,080 $30 40 10.00% 10%7 13.40%4.64% 40 100 $19,843 $40,663$66,953 $109,032$218,330 100 $133,875 $27 41 10.00% 10%6 15.60%3.19% 41 101 $20,884 $42,520$71,067 $116,671$236,410 101 $115,977 $24 42 10.00% 10%6 15.60%2.14% 42 102 $18,092 $37,620$63,047 $105,000$215,770 102 $101,055 $21 43 10.00% 10%6 15.60%1.40% 43 103 $15,765 $33,427$56,249 $94,197 $192,524 103 $88,402$18 44 10.00% 10%5 18.70%0.88% 44 104 $16,531 $35,427$60,156 $101,801$210,926 104 $74,975$16 45 10.00% 10%5 18.70%0.54% 45 105 $14,020 $30,243$51,390 $87,818 $184,768 105 $63,680$13 24. RETIREE CASH FLOWS AGES 60, 70, 80 & 90 (WITH SUPERANNUATION ADJUSTMENT (1/N) )RESULT OF START WITH EXPECTED LONGEVITY PERCENTILE, DYNAMICALLY ADJUSTING OVER TIMETO LOWER LONGEVITY PERCENTILE (EFFECT: DYNAMICALLY EXTENDS THE DISTRIBUTION PERIOD)At each age: Withdrawal rate isthe same; Different $$ amountwhich depends on good or bad We would likemarket sequence. good markets. ? We need to plan2000s ? for poor markets.Serially connected, Annually Adjusted, Withdrawals. All Points calculated at 10% POF; 60 % Equity 25. Higher withdrawals early (50th (30%))(Light Red line). Result in lower withdrawals later Compare to 50th (10%) (Dark green line).Conclusion:Trying to squeeze out more .results in getting less over theirlifetime. 25 26. Second Generation: 3D & Dynamic perspectiveof Simulation (Calculation) resultsThis is all a simulation (Calculation) tells us(We do not know how the future will unfold) WR%We dont need complex simulationsto project the future. We just need toknow the present facts and use theconcepts from research to pre-calculateacceptable parameters based on factswe know today.X%Current Withdrawal Rate (WR%) applies only for the moment the simulation (or calculation) is run2616:19 27. Key basic takeaway Life Expectancy Based on Outlive % and Retiring atAge 70 54Balanced allocation $3730 (Pre-tax; post fee) JointFemaleMaleOutlive Life% 80%85 74 70$X * WR% = $Y Target POF 5%31 20 16WR% = $Y / $XPortfolio % Decline Probability of Failure (POF) @ WR%:$X = $Y / WR% Required: WR%: POFSustainable @ LowestCurrent LTP Value= $1,205,6704.60% 5.00%POF @ Port. Value $1,097,713 9.0% 5.00%10.00% $ 3,381.00 Sustainable $1,006,555 16.5%5.40%15.00% $ 3,097.25 Dist. $$ per $937,196 22.3%5.75%20.00% $ 2,881.35 month. Emergency1st: Set POF Procedures!2nd: Determine WR%Based on longevity percentilefor current age(s) = Distribution Period Total Portfolio Value ($X) X Withdrawal Rate (WR%) = Annual Withdrawal ($Y) 28. 28 16:19 29. 4 Levers: A summary popping open withdrawal rates to look inside them Sequence Risk (unknown market returns) Lever* When POF approaches 30% Distribution Period Lever (tilt towards consumption or bequestgoals)* Use table Longevity Percentiles of Period Life Tables Superannuation Lever (Risk of very old age) (2013 Paper) Transition those in mid-retirement (mid to late 70s) to expect older ages; thus a continued extension of distribution periods Portfolio Volatility Lever Allocation (least effective)*Withdrawal rate (WR%) most sensitive to these two levers(purpose of monitoring WR% - or more specifically POF: Highercash flow early results in lower cash flow later because portfoliobalances are consumed & can not assume returns will over comethat consumption).29 16:19 30. So what control really matters?Remember earlier we discussed combining TWO sets of probabilities that interact: Probability of Failure the percent of simulations that fail to reach the end of the simulation period given present withdrawal rate. (Probability of the Portfolio or sequence risk)Simulation period is a function of current age & current ages longevity percentile.(Probability of the Person)Navigation(Are you ontrack towards Attitude Indicator destination?)AirspeedConsumption(by itself notan effectivemeasure) 31. The solution to expand beyond the static 4% perspective Incorporate a 3-D perspective Second Generation is Dynamic (rather than static) A sustainable methodology needs to keep benefitsconnected to supporting asset values year by yearthroughout the entire distribution period. 32. Summary: Blend of Expert Teamand knowing what levers to moveAnnual review andupdate based on factsas they are then known.Emergency procedureswell understood byyou and retiree.Coordination of teamof other experts soretiree successfully fliesthrough life. 33. The End RESEARCH STILL DIGGING DEEPER INTO STILLUNANSWERED QUESTIONS PS. Presentation posted 14 September 2012 may be foundat blog.betterfinancialeducation.com or http://www.slideshare.net 3316:19 34. Disclosures There can be no assurance that the financial concepts andstrategies presented in this material will be successful.Investments are subject to market fluctuation, marketrisk, and loss of principal. Past performance is not aguarantee of future success. Every investment strategy hasthe potential for profit or loss. For allocations, please refer to the research materialreferenced at the slides in Background info. Investors cannot invest directly in an index.Therefore, passive indexed approaches have beendeveloped. The performance of any index is not indicativeof the performance of any investment and does not takeinto account the effects of inflation and the fees andexpenses associated with investing. 35. Background info Additional Points and Source material follows 36. We have gone from Classical withdrawal rate thought (4%)Newtonian Physics:Deterministicdetermination offuture positions.To a deeper insight into what goes on inside a withdrawalrate. Quantum Physics: Probability of future, but not which future actually ensues. 37. Decision RulesTotal Portfolio Value ($X) X Withdrawal Rate (WR%) = Annual Withdrawal ($Y) $X = $Y Guyton WR% 20% increase in WR% (Capital Preservation Rule)* 20% decrease in WR% (Prosperity Rule)* Measured from when? (High? Middle? Low?) Do the rules apply: over all periods? to all asset allocations? Are there moreconsistent rules basedon dynamic principles?*JFP March 2006 38. Timeline and POF POF is how one evaluates the future possibilitiesPASTPRESENTFUTURE 100% Probability of Portfolio Failure Based on Remaining 90% 80% 70% 60% Target Period 50% 40% 30% 20% 10%Today0%0 5 10 15 20 25 30 Elapsed Time (Years) Black to cover the years upRuns That PassedRuns That Failed3 45 67 89 101112131415161718HISTORY (KNOWN) TOMORROWS EVENTS(UNKNOWN)19212320222425262728Simulations may be run for any POF (illustrated at 40%)2931333032343536Let us see how different POFs graph in comparison 373941384042434445464748495038 39. Left & Bottom have Lower Relative WR% compared to Right and Top Higher Relative WR% Cash Flow Comparisons at 30% POF (Higher Relative WR%) Lifetime Cash Flow Annuity 2000 Table (Percentiles) Adjusted Lifetime Cash Flow Annuity Consumption Oriented (FMB 2012) 95th 75th50th25th5th95th 75th 50th 25th5th$ 1,030,060 $ 1,681,409 $ 2,404,182 $ 3,489,451 $ 6,084,282 $ 986,618 $ 1,561,839 $ 2,185,474 $ 3,101,550 $ 5,244,485 Terminal Values Percentiles Annuity 2000Terminal Values Percentiles Annuity 2000$62,203 $ 140,802 $ 243,103 $ 432,742 $ 947,431 $ 16,801 $ 38,863 $68,210 $ 123,043 $ 275,874Lifetime Cash Flow Social Security Table (Percentiles) Adjusted Lifetime Cash Flow Social Security Consumption Oriented (FMB 2012) 95th 75th50th25th5th95th 75th 50th 25th5th$ 1,005,670 $ 1,614,741 $ 2,281,960 $ 3,272,152 $ 5,611,243 $ 951,306 $ 1,470,960 $ 2,023,054 $ 2,816,557 $ 4,636,570 Terminal Values Percentiles Soc Sec Table Terminal Values$39,824 $ 90,482 $ 156,991 $ 280,978 $ 620,226 $ 6,928 $ 16,220 $28,846 $ 52,690 $ 119,725 Differences by Percentile (Annuity > Soc Sec by:)Differences by Percentile (Annuity > Soc Sec by:) 95th 75th50th25th5th95th 75th 50th 25th5thAnnuity Lifetime Cash Flow (Difference) longer DP ComparedLifetime Cash Flow (Difference) Table (Healthy) has to Social Security Table (General$24,390 $ 66,668 $ 122,222 $ 217,299 $ 473,039 $ 35,312 $ 90,879 $ 162,420 $ 284,993 $ 607,915Terminal Values (Difference)Population) Terminal Values (Difference)$22,379 =>$ Lower WR% => Higher Lifetime Cash flows $ 22,643 $ 39,364 $ 70,353 $ 156,14950,320 $ 86,112 $ 151,764 $ 327,205 $9,873 and Higher Terminal ValuesObservation also holds when compare Consumption Oriented Goal (Right Half Side) Cash Flow Comparisons at 10% POF (Lower Relative WR%) Observation also holdsTable (Percentiles) Lifetime Cash Flow Annuity 2000 when compare 30% POFCash Flow Annuityto 10% POF (Bottom Half)Lifetime (Top Half) Consumption Oriented (FMB 2012) 95th 75th50th25th5th95th 75th 50th 25th5th$ 1,083,038 $ 1,830,425 $ 2,676,410 $ 3,970,052 $ 7,109,742 $ 1,048,430 $ 1,722,184 $ 2,471,199 $ 3,596,238 $ 6,279,890 Terminal Values Percentiles Annuity 2000Terminal Values Percentiles Annuity 2000$ 118,397 $ 264,825 $ 453,457 $ 802,242 $ 1,738,121 $ 34,179 $ 78,260 $ 136,254 $ 242,943 $ 540,578Lifetime Cash Flow Social Security Table (Percentiles)Lifetime Cash Flow Social Security Consumption Oriented (FMB 2012) 95th 75th50th25th5th95th 75th 50th 25th5th$ 1,059,421 $ 1,761,116 $ 2,545,916 $ 3,732,415 $ 6,581,038 $ 1,004,667 $ 1,608,751 $ 2,267,111 $ 3,234,573 $ 5,497,662 Terminal Values Percentiles Soc Sec Table Terminal Values$78,439 $ 176,287 $ 303,551 $ 539,681 $ 1,176,039 $ 15,040 $ 34,608 $61,080 $ 110,397 $ 247,239 Differences by Percentile (Annuity > Soc Sec by:)Differences by Percentile (Annuity > Soc Sec by:) 95th 75th50th25th5th95th 75th 50th 25th5thLifetime Cash Flow (Difference) Lifetime Cash Flow (Difference)$23,617 $ 69,309 $ 130,494 $ 237,637 $ 528,704 $ 43,763 $ 113,433 $ 204,088 $ 361,665 $ 782,228Terminal Values (Difference)Terminal Values (Difference)$39,958 $ 88,538 $ 149,906 $ 262,561 $ 562,082 $ 19,139 $ 43,652 $ 75,174 $ 132,546 $ 293,339 40. A Dynamic and Adaptive Approach to Distribution Planning andMonitoring. April 2009, by David M. Blanchett and Larry R FrankSr. Demonstrates how dynamically changing the withdrawaldollar amount leads to higher withdrawal rates.Questions: When to make the withdrawal dollar amount change? Does changing allocation make a difference?The Dynamic Implications of Sequence Risk on a DistributionPortfolio. June 2010, by Larry R Frank Sr and David M. Blanchett. Demonstrates that sequence risk does NOT go away with time.Question: What should decision rules be based on if sequence risk is ever-present? 40 41. Working papers with research data may be found on Social Science Research Network(SSRN.com) Quicksearch Larry R Frank Probability-of-Failure-Based Decision Rules to Manage Sequence Risk in Retirement. November 2011, by Larry R Frank Sr, John B Mitchell, and David M. Blanchett. An Age-Based, Three-Dimensional Distribution Model Incorporating Sequence and Longevity Risks. March 2012, by Larry R Frank Sr, John B Mitchell, and David M. Blanchett.Academy of Financial Servicers October 1-2, 2012 at The MengerHotel, San Antonio, TX.,Transition from Young, through Very Elderly, RetirementDistributions within the Age Based, 3D UniversalDistribution Modelby Larry R Frank Sr, John B Mitchell, and David M. Blanchett.Superannuation risk. 41