Make Your Retirement Savings Last a Lifetime

When driving on a winding mountain road, you probably don’t flip on the cruise control and sit back grooving to the radio. So why would you put your retirement spending on autopilot.

Like a Rocky Mountain road trip, retirement requires constant course corrections. To keep retirement-spending plans on track, a growing number of financial advisers and academics are developing drawdown strategies that adapt to changing circumstances, such as age and account balance, rather than withdrawing a set amount annually throughout retirement. Retirees using these “dynamic” strategies adjust withdrawals from year to year as their age, spending goals, portfolio performance and other conditions change.

Because they respond to changing market conditions and investment returns, dynamic spending strategies can help address one of the biggest risks retirees face: poor returns in the early years of retirement that blow their spending goals off course. Dynamic strategies also allow for larger withdrawals in early retirement, years when people tend to spend more on travel and hobbies. “The more flexibility you have to cut spending if necessary, then the higher the withdrawal rate you can start with,” says Wade Pfau, professor of retirement income  at The American College, in Bryn Mawr, Pa.

The new spending strategies are a departure from the “4% rule,” which in the past 20 years has become the basis for many retirees’ drawdowns. With the 4% rule, a retiree spends 4% from a balanced portfolio in the first year of retirement, adjusting that dollar amount each year to keep pace with inflation. A retiree using this strategy, according to proponents, has a 90% chance that his money will last for 30 years.

Though easy to follow, the rule ignores portfolio performance. A retiree who follows it blindly will keep spending the same inflation-adjusted dollar amount even if his nest egg falls off a cliff.