Total portfolio allocation and withdrawal

This article describes the "total portfolio" approach to asset allocation and withdrawal.

The total portfolio approach means that a conservative estimate of the present value of future savings and retirement income, valued using the safe bond rate, is counted as bonds in the portfolio. A fixed asset allocation is maintained on this "total portfolio." Retirement withdrawals are calculated by amortizing the total portfolio over retirement years (amortization based withdrawal).

The advantage of the total portfolio approach is that total risk is kept consistent from year to year. This has two benefits:


 * 1) The more even spreading of risk across years reduces the total risk that the retiree would need to take to achieve a given expected return.
 * 2) It prevents surprises like risk increasing unexpectedly as the real value of a pension declines and the retiree relies more heavily on the savings portfolio.

Simulator
This spreadsheet calculates TPAW allocation and withdrawals given stock and bond returns. It can be used for backtesting the TPAW strategy using historical returns, or for forward looking analyses using simulated returns. Users can use the results of the backtests and simulations to adjust their asset allocation and withdrawal plan till they find their preferred strategy.

The simulation assumes no borrowing. If the unconstrained TPAW strategy calls for borrowing to invest (i.e. AA >100% stocks, likely in early career), the simulation uses an AA of 100% stocks instead. And if the unconstrained TPAW strategy calls for borrowing to consume (a possibility in early retirement before pensions begin), the simulation only withdraws whatever is available in the savings portfolio.


 * For investors in the accumulation phase: Excel or Google Sheets
 * For retirees: Excel or Google Sheets

The following spreadsheet shows a way to adjust historical returns so that its expected return becomes equal to the expected return of the return distribution you want to use for the simulation:


 * Returns for simulation: Excel or Google Sheets

Theoretical model without borrowing constraints
This spreadsheet shows the theoretical model underlying TPAW. Unlike the simulator above, it assumes that you can borrow as much as you want when you need to. This makes the model simple and elegant. Calculations can be done with formulas and don't require simulations (e.g. what is the probability of withdrawals falling below $40,000 at age 70?). But it is not directly implementable in a world with borrowing constraints. So care should be taken when using the spreadsheet to understand if and when borrowing is being assumed and the consequences of not being able to borrow as assumed. The larger your savings portfolio is relative to future income, the less likely the model is to require borrowing. The model is most likely to call for borrowing (to invest) in early career when the savings portfolio is at its smallest and future savings is at its highest. For people with large pensions relative to savings, it might also call for borrowing (to consume) in early retirement before social security and pensions start. Users are advised to use the simulator above to ensure that their strategy will work well without borrowing. Those who don't want to explore the ideas behind TPAW in more detail and are looking for the quickest route to an implementable strategy that does not involve borrowing can ignore this spreadsheet and rely solely on the simulator to devise their strategy.


 * For investors in the accumulation phase: Excel or Google Sheets
 * For retirees: Excel or Google Sheets