Researching Retirement: Myths and Realities About Asset Allocations

KEY TAKEAWAYS

An income-focused retirement asset allocation with a liability-driven bond portfolio can offer better risk management than conventional allocations, which typically rely on short-term, nominal fixed income.

Despite being riskier, conventional allocations do not offer meaningfully higher retirement income.

High equity exposure in retirement is risky and provides limited benefits.

Dimensional’s Research team recently evaluated the ability of common investing and spending strategies to support smooth retirement consumption. We used simulations to compare an income-focused allocation with two wealth-focused allocations that are inspired by real-world target date funds.1 We found that the income-focused allocation delivers similar retirement income with lower risk.

Our results differ from conventional wisdom about retirement investing. The three allocations we considered are shown in Exhibit 1. All allocations start with 100% allocated to equities at age 25 and maintain this exposure until age 45. Then, equity exposure in each allocation declines until reaching its landing point at age 65, either 25% or 50%. In the wealth-focused allocations, short-term nominal fixed income replaces equities, a common practice in target date funds.2 In the income-focused allocation, fixed income is used to manage inflation and interest rate risks through a liability-driven investing (LDI) bond portfolio. Exposure to equities in retirement, at 25%, is lower than the equity allocation in the average target date fund, which is closer to 50%.

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Robert J. Pyle, CFP®, CFA is president of Diversified Asset Management, Inc. (DAMI). DAMI is registered as an investment adviser with the U.S. Securities and Exchange Commission (“SEC”) with its primary place of business in the state of Colorado. DAMI will only transact business in other states to the extent DAMI has made the requisite notice filings or obtained the necessary licensing in such state. No follow up or individualized responses to persons in other jurisdictions that involve either rendering or attempting to render personalized investment advice for compensation will be made absent compliance with applicable legal requirements, or an applicable exemption or exclusion. References to registration with the SEC do not imply any endorsement or approval of the qualifications of the firm, nor do they imply that the firm’s representatives have attained a particular level of skill or training. To contact Robert, call 303-440-2906 or e-mail info@diversifiedassetmanagement.com.

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