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Glidepath Investing for Retirement



September 27, 2012 – Comments (3)

Board: Macro Economics

Author: yodaorange

Rob Arnott of Research Affiliates released a significant paper today entitled “The Glidepath Illusion.” [1] Glidepath refers to the conventional asset allocation for retirement saving. Younger savers have a high allocation to equities which slowly “glides down” to a small allocation when retirement starts. This model only has two asset classes: equities and bonds, so the bond allocation rises towards retirement. The rationale for this Glidepath is that bonds are less risky than equities and near-retirees cannot tolerate the equity risk.

Rob decided to question the Glidepath model to see how it performed. He used actual equity and bond returns from 1871 through 2011. The key assumptions are the worker saved $1,000 real per year for 41 years. Real means that the actual amount increased at the same rate as inflation, so it went up over the 41 years in nominal terms.

Further, Rob tested three scenarios:

1) 80% equities/20% bonds gliding to 20%/80% (conventional recommendation)
2) 50% equities/50% bonds unchanged (~ balanced portfolio)
3) 20% equities/80% bonds gliding to 80%/20% (BACKWARDS to conventional recommendation)

Rob reports surprising results. The Inverse Glidepath had the best results.

[See Post for Tables]

The inverse Glidepath has the best median, average, 10%, minimum, 90% and maximum return. Lest you think these results are purely as a results of the exact sequence of returns, Rob took each of the annualized returns and “randomized” them. The results were the same with the inverse Glidepath coming out on top.

Rob has written extensively that investors should be planning for lower returns going forward. Large factors are the low stock dividend yield and low bond yield the market currently has. For this study, he arbitrarily lowered the expected equity returns and bond returns. The results were the same with the inverse Glidepath coming out on top again.

BOTTOM LINE is these are significant results that we should strongly consider in retirement planning for young people. If you are already near retirement or in retirement, the results have less bearing on your asset allocation.

There is one other point which is also significant. The MINIMUM amount for the conventional Glidepath had $49,940. This is for a cumulative investment of $41,000. It proves if you are a really unlucky saver, you can do everything right and still retire close to broke.
The paper is 5 pages long, but is worthwhile IMO. If nothing else, you might read it and see if it applies to any investors you know.



[1] Rob Arnott: The Glidepath Illusion (Free registration might be required.)

3 Comments – Post Your Own

#1) On September 27, 2012 at 12:53 PM, constructive (99.96) wrote:

I wouldn't say it's significant. When you consider the reverse glide path in the context of real life risk aversion, it's pretty obviously nonsense.

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#2) On September 27, 2012 at 2:01 PM, awallejr (52.77) wrote:

Also depends on what equities and what bonds were bought.  But in the end Mega is right, it is all about risk aversion.  Someone 21 years old can gamble on those speculative stocks that could turn out to be major homeruns.  And should he lose it he still has plenty time to recover.

Now someone 61 can't afford to take that chance.  And with the boomers starting to retire bonds will still be bought over stocks.

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#3) On October 05, 2012 at 12:23 AM, Zack907 (< 20) wrote:

This result is pretty obvious when you think about it. Stocks have historically returned more than bonds, so of course if you have a higher percentage of stocks in your portfolio at the end of your career when you have more money in savings you will make more. However, the reverse glidepath is an idiotic strategy. The reason investors would want to decrease the amount of stocks at the end of their careers is to decrease volitility as they get close to actually pulling their money out. If you can stomach having 80% of your savings in stocks as you approach retirement, than you would be much better off having 80% in stocks for your entire career than ramping up to it. Instead of having a 50-50 allocation mix, the third example should have been 80-20 fixed. This would have been by far the best allocation mix of the 3 choices.

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