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How to Rebuild Retirement Income

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The bear market has roiled many retirees’ or soon-to-be-retirees’ income projections, creating the dilemma of how to recover from those losses. Jerry Golden, president of MassMutual’s Income Management Strategies Division, shares the following scenario and potential solutions for a hypothetical client, “Joe, the retiree.”


Joe is a 65-year-old widower with two children and six grandchildren. He has $1 million saved in a rollover IRA account that represents the bulk of his savings. The market’s recent volatility has unnerved Joe, who has the following financial goals: (1) a reasonable inflation-adjusted income that is protected; (2) the ability to provide some money for his children and grandchildren; and (3) access to a portion of assets for unexpected expenses

In October, 2007, Joe was 64 and looking forward to beginning his retirement in one year. He had a traditional portfolio allocation of 65 percent equity mutual funds and 35 percent in bond mutual funds. He planned his retirement income with the assumption that he would take out 4 percent ($40,000) in the first year with subsequent years adjusted for inflation, which he estimated would average 3 percent. Even if markets experienced zero growth over the next year, he figured he’d have enough money to last throughout his retirement with some money left for his children and grandchildren.

By October 2008, Joe’s portfolio had dropped with the bear market. His equity mutual fund portfolio was down 38 percent, which was the average result for investors given market conditions. His bond mutual funds were down 9 percent, also on par with average market performance. Consequently, his portfolio was down 28 percent over the last 12 months to $719,850 ($401,700 in the equity mutual funds and $319,150 in the bond mutual funds).

Joe was still counting on receiving $40,000 per year to meet his basic living expenses. His job requires that he retire at 65, so he can’t delay retirement, and he doesn’t want to take another job in retirement to subsidize his income.

Joe’s Options

Joe is apprehensive about market volatility and doesn’t want to lose any more of his money to market downturns. However, he also wants to ensure that his money has the potential to grow, as he wants to leave some money to his children and grandchildren. Golden outlines several options that Joe and other investors in similar positions can consider. (Note: the amounts shown are for illustration-only because rates are subject to change.)

Goal 1: Protect future income from being eroded by poor market performance

Solution 1: Purchase an inflation-adjusted income annuity for $554,346; this will provide $40,000 of inflation-adjusted, guaranteed income each year for the rest of his life. This leaves $165,504 in discretionary money that Joe can move into a growth portfolio of stock and bond funds; he can also access these funds if needed. If Joe leaves the money in this portfolio to accumulate for 30 years and it experiences average results, he could have as much as $929,411 to leave his heirs. There is no guarantee he’ll achieve that result, of course, but his current portfolio also lacks guarantees.

Goal 2: Receive a guaranteed income but take some risk on the assumption the markets will recover in the near future.

Solution 2: Use one-third of his portfolio, or $237,551, to purchase a $17,141 inflation-adjusted income annuity that accepts multiple premiums. Invest the remaining $482,300 in a growth-oriented portfolio of stock and bond funds and use withdrawals from the portfolio for income supplements. Each year, Joe’s withdrawals from the growth portfolio are reduced as he gradually purchases more of the income annuity.

Based on average market returns, his guaranteed income goal of $40,000 is reached in nine years and at that point, the remainder of his portfolio is available for Joe to use at his discretion. If he leaves the money in this portfolio for 30 years and it experiences average results, he could have as much as $573,317 to leave his heirs. If he could live on a 1.5 percent inflation adjustment, he might leave his heirs $690,092.

Goal 3: Take more risk on the assumption the market will recover in the near future.

Solution 3: Rebalance the portfolio to its original allocation (65 percent stocks/35 percent bonds) by moving $66,203 from bonds to equity funds. Take periodic withdrawals from the account to cover fixed expenses. Based on simulated results, if Joe lives until 86 (his life expectancy), he has a 32 percent chance of running out of money. Any increase in the amount of money he withdraws from the portfolio further increases his risk of running out of money.

Based on average market results, Joe will run out of money by age 91 under this strategy.

Each client’s situation is different, of course, but Joe’s problem is certainly not unique. For such scenarios, Golden notes, advisors and clients should look at the value of the assets in their retirement accounts. They should also know the amount of income that account can produce, being careful not to overlook income that can be produced and guaranteed by an income annuity, in particular income annuities that can increase with inflation.

“Strategies including an income annuity not only were able to preserve Joe’s original income objectives from before the downturn, they were also able to hold out the potential to meet Joe’s legacy objectives,” says Golden. “Before clients make important lifestyle decisions, such as cutting back on retirement income, working longer, or downsizing their living situation, advisors should point out alternative account-allocation strategies that include an income annuity, either purchased on a lump sum basis or laddered over time.

Golden explains: “In this awful market period where Joe’s account fell 28 percent, the cost of purchasing a COLA (inflation) protected income annuity improved 25 percent, and so Joe was not as bad off as he assumed. A lot of people, however, have blinders on when it comes to alternative account-allocation strategies that include an income annuity, so they might not be aware that they have alternatives.”


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