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The Withdrawal Stress Test™

Determining sustainable distribution

In assessing the distribution phase of a plan, our proprietary Withdrawal Stress Test™ helps determine your portfolio’s sustainability over the course of retirement or other extended timeframe. The withdrawal rate is calculated by dividing total annual withdrawals by the value of the portfolio. Historically, a portfolio with a lower withdrawal rate is more sustainable and allows investors to withstand more market volatility.

WithdrawalStressTest FINAL

Why is understanding the rate of withdrawal important?

Assuming future growth rates for equities and bonds are similar to historical averages, a lower withdrawal rate accommodates more flexible asset allocation. For a portfolio with 1% – 2% withdrawal rates, market volatility is less impactful and little demand is needed to sustain distribution requirements. Therefore, the allocation can range from conservative to aggressive depending upon the client’s risk temperament.

In contrast, an average withdrawal rate of 3% – 5% typically requires more substantial equity exposure. Equities have a history of higher growth than some more conservative asset classes. Hence, some equity exposure is necessary in an attempt to sustain the portfolio while distributions are taken and accounting for inflation.

With higher withdrawal rates of 6%+, there is less allocation flexibility. Stock market volatility has the potential to negatively affect a portfolio’s value and its ability to sustain distribution requirements. In order to help manage this risk, a lower equity/higher bond allocation is prudent. It is important to note that we would expect a portfolio to deplete under this scenario.

Stock investing involves risk including loss of principal. Bonds are subject to market and interest rate risk if sold prior to maturity. Bond values will decline as interest rates rise and bonds are subject to availability and change in price.