“What many might find surprising is that, among the three factors considered in our study, asset allocation will likely have the least impact on moving the dial when it comes to the sustainable withdrawal rate (SWR),” said Kevin Khang, head of active research in Vanguard Investment Strategy Group (ISG) and co-author of the paper. “A lot of past literature on SWR focuses on asset allocation, but it’s based on long-term historical returns spanning many decades. In today’s environment, the expected equity risk premium over fixed income is not as high.”
“Desired bequest levels and portfolio depletion risk are bigger factors in determining SWR,” said Vanguard Investment Strategist David Pakula, the paper’s other co-author. “In fact, because of that, most of our hypothetical scenarios focused mainly on the impact of those two factors and assumed an asset allocation of 50% stocks and 50% bonds.”
While asset allocation itself may not be as crucial, the projected return environment would clearly impact the SWR. The bar chart below indicates the optimal SWR depending on different investment and inflation scenarios further parsed by the retiree’s desired bequest level and portfolio depletion risk tolerance.
“We see SWRs approaching or exceeding the old 4% rule only in our most optimistic investment scenario and for the more risk-tolerant retirees with no desire to leave a bequest,” Khang said. “It illustrates the need for customization for each investor. Relying on old rules of thumb could mean prematurely depleting the portfolio.”