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An Evaluation of Pre-Retirement Investment Strategies:

A glide path or fixed allocation approach?


Conventional financial wisdom postulates that one’s exposure to risky assets (equities and property investments) should decrease in relation to safe or low-risk assets, such as bonds and cash, in an investment portfolio as one gets older and nearing retirement or is already in retirement. Equities and property investments are notoriously volatile and from time to time will experience sharp declines in asset values. Markets, after a sharp decline, may take a long time to recover to their previous price levels. A well-known rule-of-thumb is that one’s exposure (in percentage terms) to risky assets should equal 100 (110) minus one’s age. Thereby a 65-year old person should not have more than 35% (45%) exposure to risky assets, while a 45-year old should be invested 55% (65%) in risky assets.


Many financial product providers or plan sponsors for pension funds and retirement annuities have in recent years introduced the life stage asset allocation model, also known as target date funds, whereby one’s allocation to risky assets is automatically adjusted downwards as one is nearing the planned retirement age. The asset allocation of one’s investment portfolio would follow basically a glide path of decreasing exposure to risky assets with a corresponding increase in safe or low-risk assets over time.


The perceived benefits of the life stage model are that investors in such portfolios do not have to consider asset allocation decisions throughout their working careers – perhaps ideal especially for non-advised individuals - and are relatively safeguarded against catastrophic declines in asset values close to retirement. Thus, the primary objective of the life stage model would be to maximise the potential final value at retirement by minimising the risk of a major market collapse near retirement that would have depleted significantly the final retirement value. Therefore, exposures to risky assets are managed according to a pre-determined set of asset allocation limits as one nears retirement.


The study, therefore, focused on the pre-retirement investment strategy to attain the highest possible retirement value considering possible downside risks. For this purpose I considered a number of possible investment strategies, namely a glide path asset allocation approach where the exposure to risky assets was gradually reduced in line with a pre-determined set of asset allocation rules, and fixed asset allocation strategies where the exposures to risky assets were kept constant over time. Four different fixed allocations were considered, namely 40%, 50%, 60% and 70% allocations to risky assets.


I evaluated the various investment strategies over rolling 40-year periods that coincide with the typical contribution period of an investor. Two different data sets were used in the analyses. Firstly, historical annual real returns for the different asset classes over the period spanning from 1900 to 2012, in total seventy-four rolling 40-year periods. Secondly, the output from a Monte Carlo simulation model whereby 5,000 different 40-year outcomes were created. Thereby it could be established which strategy yielded the highest expected return, both on a historical and probabilistic basis.


Next, I contextualised the findings of the analysis in terms of real return trends. More specifically, the findings when real returns surged upwards or downwards over time and whether the same results would apply in each scenario.


Finally, I considered worst-case return scenarios, say, the bottom 10% of real return scenarios, during the final ten years prior to retirement and how well each investment strategy stood up in protecting the real value added to final retirement values during that phase.



Contents of publication:

Introduction – context

Asset class returns

Methodology – research model and assumptions

Investment strategies

Analysis of historical outcome

Analysis of simulated outcome

Contextualisation – real return trends

The value-added proposition

Appendix - Alternative glide path model



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