Part 1: Introduction & Longevity
Hello folks! Hope the day is treating you well. As I mentioned recently in my post on the hardest, nastiest problem in finance, a brilliant finance mind has recently published a series on decumulation. That brilliant finance mind is none other than William Sharpe, a Nobel Laureate and the man behind the Sharpe Ratio and the Capital Asset Pricing Model (CAPM) among other contributions.
Most recently, Dr. Sharpe was a professor at Stanford, but he now lives away from Stanford and departed the halls of academia years ago.
His primary focus throughout his career in academia has been on asset accumulation. Now that he is 83 years old, it’s great that he has turned his attention toward decumulation!
In his series/book titled Retirement Income Scenario Matrices, or RISMAT, he has compiled resources and matrices that can help individuals and financial advisors with the tools to make financial decisions in retirement.
From the Preface of his book:
“So – for whom have I written this book? The most honest answer is: myself. In an act of self-indulgence I have focused on a set of issues that I believe are of major social importance and a set of techniques that I believe might help society deal with them.”
I love how he sounds like a renegade with his most recent work. Also from the Preface:
“To be frank, I have worried relatively little about the market for the book. I just had to write it.”
His intentions are true and pure. What more could you ask?!
“Finally, it is my hope that this material will help retirees make better choices among the many possible alternative approaches for the provision of future income. The need is great, and the stakes are high.”
Needless to say, I was pretty excited to comb through the 729 pages. Yes that’s right…729 pages about decumulation! I guess you could say the simple 4% Rule (considered by many as the safe withdrawal rate) may have over-simplified things. Granted a good chunk of those pages consist of Dr. Sharpe’s matrices and MATLAB programming code which, for my case, might as well be in another language.
However, I now have a more fulsome understanding of the variables at play. Dr. Sharpe focused on six unknowns confronting retirement planners: longevity, market outcomes, inflation, TIPs, future income, and utility of income.
The first unknown for retirement planners (longevity / mortality) is built out of standard actuarial tables. The possible outcomes for any given year are simple – will you and your spouse survive or not. But the combinations possible over 30 years or more is significant. If you couple that with the 100,000-plus possible market outcomes for a global bond and stock portfolio, you can get a sense of how enormous the range of outcomes and considerations for drawdown strategies.
With so many variables, the possible outcomes seem endless. I can now see why people have created simulators and ‘rules of thumb’!
While the short answer may be the standard 4% Rule (or my preferred slightly more conservative 3.5% safe withdrawal rate) and conservative assumptions for living expenses in retirement, there is also something to be said for the more thorough work Dr. Sharpe put in to his book.
And yes…he does have a whole chapter devoted to the 4% Rule and his thoughts. I’ll give my summary analysis and thoughts in a future post on my RISMAT series, but the short answer is that Dr. Sharpe is not necessarily a fan…
Yes, I have read the whole book and I plan on deciphering the points I found most interesting for you fine readers of The Green Swan in a few posts over the coming weeks. I read it so that you won’t need to. These will be just my takeaways, things I found helpful and that I’d expect also intriguing to others nearing retirement.
If my takeaways aren’t enough, then by all means feel free to give it a read yourself…I’d love to compare notes!
So without further ado, I wanted to start the RISMAT discussion on one of the primary variables…longevity.
Dr. Sharpe uses the standard actuarial tables in his book, but emphasizes the personal use of more specific estimators and calculators found online. The actuarial tables are interesting as it gives a sense of how life expectancy has increased historically and perhaps where it may go in the future.
For instance, the free tools from Gapminder provide life expectancy at birth for each country for each year. While France (orange dots) has carefully tracked this demographic data for over 200 years, the U.S. (yellow dots) has only carefully collected the data since 1880.
I think this macro-view is helpful, but we all know how good a general projection like this can be. As it relates to your specific circumstances, it probably isn’t worth much more than the paper it is printed on. Being the curious type, I wanted to test out a few online calculators to see what they thought for Lucy and me.
Social Security Administration
First, we went to the Social Security Administration and used their life expectancy calculator. The inputs…nothing more than gender and date of birth. The accuracy…likely awful. But a starting point nonetheless.
For me and my current stage in life, the SSA estimates I will live until age 82.2 years old:
For Lucy, 85.8 years:
To provide a more reputable benchmark, we obtained results from the Lifespan Calculator provided by Northwestern Mutual Life Insurance Company. They are a large and venerable company having been in the biz forever, so I’d put a little more weight in their estimate.
After asking for age, gender, height & weight, the calculator asks a series of multiple choice questions based on lifestyle. Playing with the various alternative answers for each question yields the range of outcomes on life expectancy which is quite interesting.
For instance, our switch to a vegan diet allows us to easily meet the recommended intake of fruits of vegetables and adds an expected 5 years to our lifespans compared to what would be considered the average diet of a typical American. And I presume those would be quality, healthy years!
At the very least, taking this questionnaire reassured Lucy and I that our lifestyle choices and behavior are justified and worthy of continued pursuit. No surprise then that our results were a much higher estimated lifespan compared to the Social Security Administration. Lifestyle is important!
JW – 93 years:
Lucy – 92 years:
Blue Zones Vitality Compass
Lastly, we had to try out Blue Zones Vitality Compass, the self-proclaimed “most accurate life estimator available”.
No surprise again that when you factor in lifestyle decisions into life expectancy, Lucy and I beat the average. The way I read the charts below is that the green bar is my average life expectancy, the orange bar is factors in my lifestyle choices, and the blue bar is if I take all lifestyle decisions to their max potential range. And based on the blue bar, Lucy and I still have some work we could do to max out our lifespans.
JW – 90.2:
Lucy – 90.2:
Similar to the ranges deciphered from the Northwestern Mutual Lifespan Calculator above, Blue Zone actually provides the additional days that can be gained by changing one’s behavior.
A little hokey to be sure, but the takeaways are clear. If you are looking to add quality years of life, look no further than your lifestyle behavior choices. Don’t rely on luck, “good genes”, or the false security of the healthcare industry and Big Pharma…You begin relying too much on healthcare and pharmaceuticals and you begin to lose quality of life.
These are simply my beliefs alone, but there are no magic pills that will add quality years to your life. And the pursuit of eternal youth will never materialize. Just like taking control of your finances, you need to take control of your diet. Self-responsibility is the key and that is why Lucy and I are recent vegan converts and full-on advocates. You’ll find no excuses here. The science is overwhelming. We just watched another great documentary which is also a book, WHAT THE HEALTH, and the beliefs are cemented! It is time for you to get on the bandwagon!
Good news is our life expectancies for each of the two lifestyle calculators were similar for Lucy and I. I don’t know about her, but I know this life of mine wouldn’t be as much fun alone! Heck, I don’t work so hard and save up for retirement to not be able to reap the benefits with her.
Based on the specific lifestyle that Lucy and I live, it seems we can reasonably expect to both live until our early 90s. Granted, the range of outcomes is significant. Either one of us could fall short for any number of reasons while either of us could also stretch well beyond.
The most conservative assumptions in terms of retirement drawdown strategy is to assume we both live well beyond our early 90s. If one of us were to go earlier, it would only further the longevity of our investment assets as a result of the lower expenses when only one is still living.
Based on our conservative planning, the scenario where one goes early would only mean a greater amount of our investments being passed on to our estate.
One’s own mortality and longevity is an important concept to consider though. Being early retirees in our mid-30s, an expected lifespan to our early 90s would result in approximately 60 years of retirement living! And in that more conservative scenario of living well beyond our 90s, we need to plan for an even longer time horizon.
That is hard as hell to conceptualize for me. I’ve only been a working adult for a little over 10 years right now and I need to plan for my investments to survive 60 plus years! Holy smokes, that isn’t easy. And unfortunately in Dr. Sharpe’s book, he only modeled out a retirement lifespan of 50 years max!!! Darn Dr. Sharpe, why didn’t you consider the likelihood of early retirees!
Oh well. 60+ years in retirement is now our baseline expectation. With this estimate in our arsenal, we can now continue on with Dr. Sharpe’s book and his potential solutions to help model our investment drawdown.
The next important set of variables Dr. Sharpe delves into (and I’ll comment on) is inflation and market returns. Stay tuned for more in my series on RISMAT in the coming weeks!
Thanks for taking a look!
The Green Swan