Rising Glidepaths and Liability-Matching Portfolios

This week in the Wall Street Journal‘s Encore Report section, I have short pieces about reverse mortgages and budgeting in retirement.

Also, on Monday, William Bernstein published an article in the Wall Street Journal called, “How to Think About Risk in Retirement,” in which he discusses rising equity glidepaths in retirement, and cites the rising equity glidepath article I wrote with Michael Kitces.

His column ends with:

Reverse glide path or two-bucket LMP/RP strategy? You say tuh-may-toe, I say tuh-mah-toe. Either approach will do a superb job of minimizing your risk of dying poor.

I like this quote, because for me it represents the distinction between probability-based and safety-first approaches to retirement income planning. In the research article, Michael and I discussed rising equity glidepaths in the context of being a probability-based approach.

But in presentations I’ve done, I generally discuss the strategy as more of a safety-first approach. That is how William Bernstein eloquently describes the strategy in his column. This is what he means by the term “liability-matching portfolio.” Safer assets (individual bonds or income annuities) are matched to specific retirement spending needs, and then the remaining discretionary wealth can be invested more aggressively in a “risk portfolio.”  That’s the LMP/RP in the quote.

As you progress through retirement using a relatively conservative spending strategy, you are generally going to find, if stocks can enjoy some growth, that the percentage of remaining assets required to cover remaining spending needs is going to decline over time.

Actually, Michael and I wrote the “probability-based” article after first observing this sort of phenomenon in a “safety-first” article. (I should note that these opinions are mine, as Michael thinks the distinction between these two schools of thought is artificial and would probably not explain our research in the same way as I currently am).

We had observed in an earlier article that if you put half of your assets into an income annuity at retirement, and the other half into stocks, and then you treat the present value of remaining annuity payments as a type of fixed income asset when measuring overall household wealth, your equity allocation will generally rise throughout retirement:

allocation to assets

Source: Kitces and Pfau, “The True Impact of Immediate Annuities on Retirement Sustainability: A Total Wealth Perspective”

This is why I’m generally confident in the idea that rising glidepaths are justifiable. It can be explained either as (1) a risk management tool to get the same or slightly improved outcomes with a lower lifetime stock allocation using a probability-based approach, or as (2) the natural outcome of someone basing asset allocation on their funded status and devoting the necessarily percentage of their assets to safer assets covering their spending needs, and the rest of their discretionary wealth to more risky assets. Tuh-may-toe or tuh-mah-toe.


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