Key Post Does an ARF negate the need to lifestyle your pension plan?

Thanks for that. As this seems to be work in progress you might like to feedback that the Longevity Adjusted Success rate is not a true reflection of the concept discussed in the Blanchett paper.

Blanchett considers the probability that a withdrawal strategy will fail within a chosen number of years but at a time when one or other of the parties are still alive. This is demonstrated at long durations to be a mere fraction of the probability of failure but paying no attention to whether failure occurred when either of the parties are still alive. Thus you might find that a 4% withdrawal strategy has a 10% chance of failure in 30 years, but it only has a 1% chance of failing in those 30 years whilst one or other of a 65 year old couple are still alive. So the Portfolio Success Rate at 30 years would be 90% and the Longevity Adjusted Success rate would be 99%.

So it is a valid metric to consider. But the App does not calculate the Blanchett LAS correctly - it should never increase with increasing duration. The App appears to use the kitces metric which does increase after a certain duration and indeed when we get to the end of the mortality table and there is no chance of survival the kitces metric becomes 1 no matter what the withdrawal strategy. kitces is saying "you have no chance of surviving that long so why worry, the adjusted success rate is 100%". Not a useful metric.

I earlier gave the formula for Ultimate LAS. The following is the formula for a chosen number, N, of years and is what should be in the graphic.

LAS(N) = sum from 0 to N of d(n) x p(n); plus s(N) x p(N)
where p(i) is the probability of success over i years of the withdrawal strategy unconditional on survival
d(i) is the probability that the party (or the second of joint parties) dies in year i
s(i) is the probability of survival of either party to year i

In words, the LAS over N years is the sum of the probabilities that the party(s) died in the preceding years multiplied by the probability that the withdrawal strategy was successful at least till the date of death, PLUS the probability that the party(s) survived the N years multiplied by the probability that the withdrawal strategy was successful for N years.

This metric decreases slowly until at the end of the mortality table it is equal to the Ultimate LAS for which I gave the earlier formula.
 
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Even if we assume that the retiree plans to spend rather than reinvest the lump sum, the concept of putting 25% of the fund in cash in order to protect your tax free lump sum is fundamentally flawed. It would only work if you were able to earmark that portion of the fund that is to be taken in cash form. Otherwise, all you are doing by putting 25% in cash is reducing your exposure to markets by 25%.

For example, let's say you have €800,000 in your fund and you want to ensure that you will be able to take €200,000 as a tax free lump sum when you retire. If we tweak reality slightly and assume that you can invest in a cash fund that will earn sufficient interest to cover the annual management fee, you can achieve this by investing the entire fund in cash. if you do this, you will still have the €800,000 when you reach retirement age and will be able to take the desired €200,000 as a tax free lump sum.

However, let's look at the position if you invest only €200,000 in cash and put the remaining €600,000 in return seeking assets. And let's assume there is a sharp downturn in markets and this part of your fund falls by 20% to €480,000. You would then have a total fund of €680,000 and would only be able to take €170,000 as a tax free lump sum. So your tax free lump sum has fallen by 15% i.e. 75% of 20%.
 
Just to qualify my earlier post, you can mitigate the above issue by constantly rebalancing as you get closer to retirement and this will reduce the potential volatility in your tax free lump sum, but not totally eliminate it. And it won't really be of much help where there is a sudden movement in markets immediately prior to your retirement.
 
Homer said:
Even if we assume that the retiree plans to spend rather than reinvest the lump sum, the concept of putting 25% of the fund in cash in order to protect your tax free lump sum is fundamentally flawed. It would only work if you were able to earmark that portion of the fund that is to be taken in cash form. Otherwise, all you are doing by putting 25% in cash is reducing your exposure to markets by 25%.

For example, let's say you have €800,000 in your fund and you want to ensure that you will be able to take €200,000 as a tax free lump sum when you retire. If we tweak reality slightly and assume that you can invest in a cash fund that will earn sufficient interest to cover the annual management fee, you can achieve this by investing the entire fund in cash. if you do this, you will still have the €800,000 when you reach retirement age and will be able to take the desired €200,000 as a tax free lump sum.

However, let's look at the position if you invest only €200,000 in cash and put the remaining €600,000 in return seeking assets. And let's assume there is a sharp downturn in markets and this part of your fund falls by 20% to €480,000. You would then have a total fund of €680,000 and would only be able to take €170,000 as a tax free lump sum. So your tax free lump sum has fallen by 15% i.e. 75% of 20%.
Click to expand...

I agree with you 100% and I have always made this exact argument. I'm not sure where the concept of putting 25% of your fund in cash came from. I assume the marketing dept of some insurance company...


Steven
http://www.bluewaterfp.ie (www.bluewaterfp.ie)
 
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