Total Portfolio Allocation and Withdrawal (TPAW) is a financial planner that implements the lifecycle model of investing and spending from economics.
The key concepts of personal financial planning such as risk, return, consumption smoothing, and portfolio construction come from economics. The model that studies how an investor should allocate and consume out of their portfolio over their lifetime (i.e. the optimal asset allocation and withdrawal strategy) is called the lifecycle model. A number of prominent economists, including two Nobel laureates (Paul Samuelson and Robert Merton), have contributed to its development.
Institutions like Vanguard use the lifecycle model to calculate the glide path of their target date funds. But personal financial planners and software have been slow to adopt this model, instead relying on the problematic Safe Withdrawal Rate (SWR) methodology. SWR is an ad hoc method that assumes a simplistic framework of fixed withdrawals and pass/fail grading that leads to poor guidance about asset allocation and withdrawals.
FEEDBACK FROM EXPERTS AND USE IN THE CLASSROOM
I’ve gotten feedback on TPAW Planner from two of the leading experts in the field of lifecycle finance, Professor John Y. Campbell at the economics department at Harvard University and Professor Luis Viceira in the Finance Unit at Harvard Business School. They have taken a look at the planner and approve of the rigorous approach that it takes. They see it as a welcome improvement over SWR modeling. Professor Campbell has also used TPAW Planner in the personal finance class that he teaches at Harvard.
Online Planner (recommended for most users): tpawplanner.com
Spreadsheet Planner: "Planner with Monte Carlo Simulation" located in the TPAW wiki.
11/18/2023: Graph with retirement funding sources added to the online planner. post
11/04/2023: Why does the recommended asset allocation change so much?
- The optimal asset allocation changes when the equity premium changes. post
- But don't rebalance too frequently. post
- Is this market timing? post
9/26/2023: Turning off bond volatility + TPAW's spending tilt in the online planner. post
9/15/2023: Modeling the VPW amortization in the online planner. post
9/9/2023: Modeling the 1/N withdrawal strategy in the online planner. post
8/23/2023: Multiple plans, autosave, viewing links, plan history, and undo/redo features added to the online planner. post
6/20/2023: Balance sheet (wealth = spending) accounting added to the online planner. post
6/15/2023: Feedback from Professors John Y. Campbell and Luis Viceira. post
Summary: I’ve gotten feedback on TPAW Planner from two of the leading experts in the field of lifecycle finance, Professor John Y. Campbell at the economics department at Harvard University and Professor Luis Viceira in the Finance Unit at Harvard Business School. They have taken a look at the planner and approve of the rigorous approach that it takes. They see it as a welcome improvement over Safe Withdrawal Rate (SWR) modeling. Professor Campbell teaches a course in personal finance at Harvard and is considering offering TPAW Planner as a resource for his students.
6/13/2023: Generate a printable report in the online planner. post
4/2/2023: Calendar inputs + automatic rolling forward in the online planner. post
2/24/2023: Monthly planning + block sampling in the online planner. post
1/5/2023: New risk inputs in the online planner. post
11/5/2022: Ways to save a plan in the online planner. post
10/14/2022: Making the online planner easier to use. post
8/20/2022: TPAW vs SWR with the same expected return assumption. post
7/21/2022: Option to reduce risk at older ages in TPAW. post
7/16/2022: Safe Withdrawal Rate (SWR) strategy added to tpawplanner.com. post
7/7/2022: Simulation option using only historical sequences added to tpawplanner.com. post
7/2/2022: Reward/risk ratio added to tpawplanner.com. post
6/26/2022: Expected stock return estimates from CAPE regressions. post
6/11/2022: Savings portfolio vs total portfolio: risk as a function of market performance. post
6/1/2022: Savings portfolio vs total portfolio: risk as a function of age. post
5/28/2022: Savings portfolio strategy added to tpawplanner.com
Summary: The online TPAW planner now supports a "savings portfolio" strategy in addition to the default "total portfolio" strategy. The savings portfolio approach is simpler and more familiar. The present value of future savings and retirement income is not counted as a bond. You directly specify the asset allocation of the savings portfolio. Income during retirement such as Social Security and pensions simply reduce the withdrawals required from the savings portfolio during the years in which you receive the income. Conversely, an extra expense in any year increases the withdrawal required from the savings portfolio for that year. The savings portfolio is amortized to meet the net withdrawal requirements. post
12/7/2021: TPAW now has an online planner: tpawplanner.com.
More features and easier to use than the spreadsheet planners. post
10/8/2021: The withdrawal strategy derived in Merton (1969) is ABW. post
Summary: The seminal academic papers on optimal allocation and withdrawal are Samuelson (1969) and Merton (1969). They have similar models and were published as companion papers in the August 1969 issue of The Review of Economics and Statistics. I show that the optimal allocation and withdrawal strategy derived in Merton (1969) aligns with the allocation and withdrawal strategy in TPAW.
9/28/2021: Updated "Planner with Monte Carlo Simulation" and "Simulator" spreadsheets. The update fixes an error in how entries in the "extra withdrawals" column were handled. post
9/4/2021: Why calculate the present value of the pension? post
8/23/2021: Instructions on how to customize "TPAW Planner with Monte Carlo Simulation." For accumulators. For retirees.
8/20/2021: "TPAW Planner with Monte Carlo Simulation" added to the wiki. post
Summary: This is the full featured planner that I've had in mind for a while. It uses Monte Carlo simulations to show the impact of your planning choices. You adjust your plan until you're satisfied with the simulation results.
7/3/2021 The problem with safe withdrawal rates (SWR). post
6/16/2021: How to make retirement income more stable. post
6/12/2021: Asset allocation on the savings portfolio. post
Summary: The glidepath on the savings portfolio gets adjusted quite a bit over a lifetime. Setting a glidepath at age 25 and sticking to it would be suboptimal. The glidepath needs be flexible, adpating to new circumstances to keep risk constant. However, if you prefer the more familiar approach of a predetermined glidepath on the savings portfolio, designing one customized to your personal circumstances--risk preference, pension start dates, and pension amount as a percentage of retirement income--would still be better than going with a generic target date fund glidepath that does not take these factors into consideration.
6/10/2021: Managing gap years without a bridge to Social Security. post
6/8/2021: Time diversification of stock risk. post
6/6/2021: Why retirement income recovers fully after a poor sequence of returns (temporary crash). post
6/4/2021: How retirement income responds to a poor sequence of returns (temporary crash). post
Summary: There is concern that a market crash right around retirement can permanently damage a retirement because portfolios are at their peak value and very sensitive to returns (sequence of return risk). TPAW manages this risk by maintaining a fixed asset allocation on the total portfolio and employing amortization based withdrawals. This results in a strategy that is well diversified across time, making the outcome less sensitive to the timing of returns. I show that a crash and subsequent recovery would have no harmful effect on retirement even if it occurred just prior to retirement when the savings portfolio is at its peak. During retirement, no matter when the crash occurs, the loss would be limited to reduced income during the depressed years. The income will recover fully if and when the market recovers. There would be no permanent damage to the portfolio that persists after the market has recovered.
6/1/2021: Results of historical simulations covering 1881-2021. post
HOW IT WORKS
Following the lifecycle model, TPAW combines a "total portfolio" perspective with amortization based withdrawal (ABW) to arrive at a strategy with attractive risk/return characteristics.
The "total portfolio" refers to the fact that the present value of future savings and retirement income is counted as bonds in the portfolio. As indicated by the lifecycle model, a fixed asset allocation is maintained on this total portfolio. This translates to a downward sloping glidepath on the savings portfolio during working years. Retirement withdrawals are calculated by amortizing the total portfolio across retirement years.
The advantage of this approach is that total risk is kept consistent from year to year. This more even spreading of risk across time reduces the total risk that the retiree would need to take to achieve a given expected return (due to time diversification).
To calculate withdrawals, TPAW amortizes the portfolio as indicated by the lifecycle model. This is a variable withdrawal method that adjusts to portfolio performance, so there is no risk of running out of money before the end of retirement. The risk instead is that spending drops too low during retirement. This can be addressed by reducing portfolio risk (choosing a safer asset allocation) and/or increasing precautionary savings (reducing spending in early retirement).
USING THE ONLINE PLANNER
The planner uses simulations to show the impact of your planning choices. You can select Monte Carlo or historical simulations.
You enter a set of inputs, and the simulation results corresponding to those inputs are displayed in the graph. You then adjust the inputs until you are satisfied with the simulation results.
USING THE SPREADSHEET PLANNER
The basic process is the same as the online planner. You enter your inputs using a table like this (inputs in yellow):
And the results of the simulation are displayed in a graph like this:
Like with the online planner, you adjust your inputs until you arrive at the simulation results that you most prefer.