Morningstar - Q4 2020 - 35

3%
3%

4%
4%

5%
5%

Probability
ProbabilityofofSuccess
Success
100%
100%

6%
6%

3%
3%

4%
4%

5%
5%

6%
6%

60.6
60.6 7575
5050
20.2
20.2
Retirement Withdrawals Especially in a low-yield world,
retirees will have a better
3.93.9 2525
chance of successfully funding their retirements if they0.6eschew
0.6 0 0 the 4% guideline
EXHIBIT 5

break even assuming even modest inflation.
Even venturing way out on the risk spectrum, by
accepting either more interest-rate sensitivity
or credit risk, doesn't deliver a substantial bump
up in yields today even though it brings a
substantially higher level of volatility. Long-term
high-quality bonds yield just more than 2%
today, whereas corporate bonds are yielding just
over 3%. In other words, every rock has been
turned over in search of yield.
Those low yields constrain the return potential
of portfolios that have an allocation to bonds
and cash, at least for the next decade. That has
implications for withdrawal rates, in that what's
considered sustainable over a retiree's own
time horizon depends completely on the returns of
that portfolio's constituent holdings. Assuming
even a generous 2% return for fixed income
and an equally generous 6% equity return, a 60%
equity/40% bond portfolio would return just
4.4% over the next decade.
That suggests that new retirees, in particular,
should be conservative on the withdrawal rate
front, especially because the much-cited "4%
guideline" for portfolio withdrawal rates is based
on market history that has never featured the
current combination of low yields and
not-inexpensive equity valuations. Morningstar's
Blanchett and retirement researchers Michael
Finke and Wade Pfau cowrote research in
2013 suggesting that low yields conspire against
the viability of the 4% guideline.10 The equity
market "bailed out" low yields over the past
decade, but Pfau thinks that the odds are stacked
against 4% as a sustainable withdrawal rate
for new retirees, especially given that starting
equity valuations are not cheap ( E X H I BI T 5 ).
In addition to pointing to the importance of
maintaining a conservative withdrawal rate, very
low yields on safe securities embellish the
value of other options in retirement-notably
Social Security and fixed-rate annuities. The
benefit of delaying Social Security hasn't changed
despite lower yields coming on line, making the
value of waiting relatively more attractive today

and withdraw a 20
smaller
percentage.
1010
20
3030
Years
Years
3% Initial Withdrawal Rate
Equity
EquityAllocation
Allocation
20%
20% 40%
40%

60%
60%

80%
80%

4040

1010
Years
Years

2020

4% Initial Withdrawal Rate

Probability
Probabilityofof
Success
Success
100%
100%
63.0
63.0
61.6
61.6 7575

Equity
EquityAllocation
Allocation
20%
20% 40%
40%

60%
60%

80%
80%

Probability
Probabilityofof
Success
Success
100%
100%
7575

60.3
60.3
5050
48.6
48.6

34.9
34.9
5050
29.3
29.3
17.7
17.7
2525
5.15.1
00

2525
00
1010
Years
Years

2020

3030

4040

1010
Years
Years

2020

Probability
Probabilityofof
Success
Success
100%
100%

Equity
EquityAllocation
Allocation
20%
20% 40%
40%

3030

4040

Source: Morningstar.

Equity
EquityAllocation
Allocation
20%
20% 40%
40%

60%
60%

80%
80%

than it was a decade ago. Delaying Social Security
7575
isn't right for everyone and doesn't always
deliver an 8% return, contrary to the frequent
17.1
17.1 5050
assertions that it does. But the payoff for waiting
10.1
10.1
can be substantial, especially for people with
2.82.8 2525
longevity on their side and younger spouses.
0.10.1 0 0
1010
2020
3030
4040
Meanwhile, the payout from fixed annuities
Years
Years
depends in large part on current yields, in that safe
securities that the insurer might invest in
affect how much income the products can deliver.
That would seem to depress their attractiveness
right alongside fixed-rate investments like
cash and bonds. Yet annuity purchasers still
benefit from longevity-risk pooling-the simple
premise that some annuitants will die earlier,
thereby enlarging benefits for the ones who
continue to live. That enhances their attractiveness
versus pure fixed-income investments, such as
bonds, with no longevity-risk pooling.

60%
60%

80%
80%

Probability
Probabilityofof
Success
Success
100%
100%

maintained employment through this period have
7575
been able to increase their savings rates and
reduce debt. While those gains are encouraging,
7.77.7 5050
they may prove short-lived with a fully
2.92.9
reopened economy and the related spending
0.20.2 2525
opportunities that it entails.
0.00.0 0 0
1010
2020
3030
4040
The
trends outlined above, however, appear to
Years
Years
have more staying power. That's because they
were already well in play before the pandemic; the
COVID-19 crisis has simply provided an additional
accelerant. While topics like paying for healthcare
and low yields on safe securities were likely
top of mind for financial advisors and their clients
previously, they're even more pressing-
and even more deserving of troubleshooting in
financial plans-today. K
Christine Benz is Morningstar's director of personal finance.

Staying Power
Some of the spending and saving behaviors
brought on by the pandemic could prove
fleeting-for example, many households that have

10 Blanchett, D., Finke, M., & Pfau, W. 2013. "The 4 Percent Rule Is Not Safe in a Low-Yield World." Journal of Financial Planning, Vol. 26, No. 6, PP. 46-55.

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Morningstar - Q4 2020

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