Determining safe retirement withdrawal rates using forward-looking distributions

Abstract

An important topic for retirees is determining how much they can safely withdraw from their retirement savings: draw too much from their retirement fund and risk outliving their retirement savings, or draw too little and live below their means. For retirees to decide on the appropriate withdrawal rate, retirees need to have the tools available to decide on their spending rates. There are many factors that influence withdrawal rates, such as initial wealth, asset allocations, age, life expectancy, and risk tolerances. The topic of safe withdrawal rates aims to optimise spending rates while minimising the risk of running out of retirement savings. The focus of this study was on using forward-looking moments of the risk-neutral and real-world asset distributions in determining safe withdrawal rates for South African retirees. The use of forward-looking information, typically derived from traded derivative securities (rather than historical data), is essential in optimising safe withdrawal rates for retirees. In particular, we extracted the forwardlooking risk-neutral and real-world distributions from option prices on the South African Top 40 index, and used the moments of the distributions as a signal in a simple tactical asset allocation framework. That is, when we expect the growth asset to decrease in value, we hold cash (or short the asset) and, alternatively, when we expect the growth asset to increase in value, we hold the growth asset for the period. Using this approach, we found that we can sustain withdrawal rates of up to 7% compared to the commonly quoted 4% safe withdrawal rate obtained by historical simulations.

Determining Safe Withdrawal Rates for Post-Retirement via a Ruin-Theory Approach

“…We now address the question of what a safe withdrawal rate would be. In the literature, the 4% rule is considered risky in some research (for instance, see Anarkulova et al 2022;Pfau 2011;Raju and Saraogi 2024;Saraogi 2022) and too low in others (for example, see Finke et al 2011;Van Appel and Maré 2022). Given the initial wealth of our retired clients and the returns that their portfolios generate, our data suggests that a withdrawal rate of around 4.5% of the initial wealth will result in an acceptable ruin probability and time to ruin.…”

“…Remark 2. Some studies, like those by Pfau (2011), Anarkulova et al (2022), Saraogi (2022), and Raju and Saraogi (2024), deem the 4% rule risky, while others such as Finke et al (2011) and Van Appel and Maré (2022) find it too conservative. Our analysis of the initial wealth and portfolio returns of our retired clients suggests that a 4.5% withdrawal rate maintains an acceptable risk level.…”

“…Longevity and management fees are also taken into consideration. A different approach in the study Van Appel and Maré (2022) aims to determine a withdrawal rate that prevents funds from running out and maintains a comfortable lifestyle. Instead of relying on historical data, forward-looking risk-neutral and real-world distributions derived from option prices on South African top 40 indexes are used.…”

Sustainable withdrawal strategies for Brazilian REITs portfolios

“…Withdrawal rates refer to the amount an investor can safely withdraw from their investments without depleting their resources (Van Appel and Maré, 2022). This concept has been the focal point of numerous works and is of interest to investors and financial planners who need to devise strategies for managing wealth and spending during periods of time.…”