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Can sustainable withdrawal rates be enhanced by trend following?

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  • Andrew D. Clare
  • James Seaton
  • Peter N. Smith
  • Stephen H. Thomas

Abstract

We examine the consequences of alternative popular investment strategies for the decumulation of fundsinvested for retirement through a defined contribution pension scheme. We examine in detail the viability of specific ‘safe’ withdrawal rates including the ‘4%‐rule’ of Bengen. We find two powerful conclusions. First that smoothing the returns on individual assets by simple trend following techniques is a potent tool to enhance withdrawal rates.Second, we show that while diversification across asset classes does lead to higher withdrawal rates than simple equity/bond portfolios, “smoothing” returns in itself is far more powerful a tool for raising withdrawal rates. In fact,smoothing the popular equity/bond portfolios (such as the 60/40 portfolio) is in itself an excellent and simple solution to constructing a retirement portfolio. Alternatively, trend following enables portfolios to contain more risky assets, and the greater upside they offer, for the same level of overall risk compared to standard portfolios. To anticipate our empirical findings, we find two powerful conclusions: Smoothing the returns on individual assets by simple trend following techniques (or similar) is a potent tool to enhance withdrawal rates. Although diversification across asset classes does lead to higher withdrawal rates than simple equity/bond portfolios, “smoothing” returns is a far more powerful tool for raising withdrawal rates; in fact, smoothing the popular equity/bond portfolios (such as the 60/40 portfolio) is an excellent and simple solution to constructing a retirement portfolio.

Suggested Citation

  • Andrew D. Clare & James Seaton & Peter N. Smith & Stephen H. Thomas, 2021. "Can sustainable withdrawal rates be enhanced by trend following?," International Journal of Finance & Economics, John Wiley & Sons, Ltd., vol. 26(1), pages 27-41, January.
    • Handle: RePEc:wly:ijfiec:v:26:y:2021:i:1:p:27-41
    DOI: 10.1002/ijfe.1774
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    References listed on IDEAS

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    1. Pfau, Wade Donald, 2011. "Can We Predict the Sustainable Withdrawal Rate for New Retirees?," MPRA Paper 30877, University Library of Munich, Germany.
    2. Ivica Dus & Raimond Maurer & Olivia S. Mitchell, 2005. "Betting on Death and Capital Markets in Retirement: A Shortfall Risk Analysis of Life Annuities," NBER Working Papers 11271, National Bureau of Economic Research, Inc.
    3. Clare, Andrew & Seaton, James & Smith, Peter N. & Thomas, Stephen, 2016. "The trend is our friend: Risk parity, momentum and trend following in global asset allocation," Journal of Behavioral and Experimental Finance, Elsevier, vol. 9(C), pages 63-80.
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    Cited by:

    1. Sharma, Gagan Deep & Tiwari, Aviral Kumar & Talan, Gaurav & Jain, Mansi, 2021. "Revisiting the sustainable versus conventional investment dilemma in COVID-19 times," Energy Policy, Elsevier, vol. 156(C).

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