That shift, at 50, was naive and uninformed. I've learned things since then. Over the last 12 years or so I've done many things, including this blog. One of the many things I've done as well has been to ruminate on the transition from accumulation to decumulation before an age where it totally makes sense to do that. This post is not designed to be systematic or exhaustive. Mostly I just wanted to seed my own thoughts for a post later on that will be in more detail. The goal here is to think about some of the off the cuff differences between the two states, differences that are filtered through my personal experience as well as through my amateur finance capabilities. I may add to this post later.
My points are more or less extemporaneous but are also informed by some work by Michael Zwecher and a body of work by Moshe Milevsky, not to mention everything I've read over the last 6 years.
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Accumulation
- Portfolio decisions in this stage are often conceived in terms of a single period: i.e., "portfolio design now" and then the expected result at "the end" which may or may not mean age 65 and "retirement." This means that the evaluation of success, or at least prospective success, is often evaluated in terms of expected returns (expected geometric returns for the savvy) and terminal wealth, and in particular, for the savvy, "expected" median terminal wealth. This is the domain of modern portfolio theory, by the way, and explains why optimal portfolio design, asset allocation, and efficient frontiers are such a hot commodity for advisors and accumulators before retirement. In utility terms, the utility is typically evaluated here on wealth rather than consumption. Maybe that's ok.
- The portfolio, during this stage, is either untouched or it is something to which money is only added. That means that the portfolio can, in the extreme, maybe head towards a limit of zero but will never get there. The expectations is always onward and upwards. Heh.
- Running out of money at a late age is, at this stage, a very vague, abstract concept that is for old people and grandparents. "That's their problem, not mine."
- Advisory firms will sometimes myopically manage your plan to a "number" during this stage. There used to be a big ad campaign on this. Maybe that's ok if the horizon is certain. I mean retirement age is never random, right? Or coerced? Always known with certainty....
- To the extent that one even knows what an efficient frontier is, one tends in this stage to bias oneself to a portfolio design that prioritizes "up" over "to the left." Well, I did, anyway. Arithmetic returns, if one doesn't know what one is doing, are more fascinating than geometric. I mean, it's only "one period" after all, right? Volatility seems to always be better in this world. Unless one reads the literature in more detail, I guess.
- Consumption? Who cares? one has a job and plenty of time before retirement, right? Forced or involuntary retirements at awkward ages never happen...or only to other people.
- Human capital still, hopefully, dominates the personal balance sheet.
- The consequences of mis-steps are naively assumed to be solvable by "work harder" or "work longer." No one gets sick or laid-off or has to care-give a partner unexpectedly. There are no divorces or disability.
- Asset Allocation is a hammer and everything is a nail. Don't ask your advisor about fees, by the way, or spending.
- Longevity uncertainty: "hmmm, what's that?"
- Sequence risk: "huh, wait, what!?"
- Spending? "Uh, well, I really need that new Jag."
- Annuities? "Jesus, why? I think my grandma had one of those. Rates are so low and anyway, me? Imma gonna trade Forex and make a killing."
Decumulation
- Porfolio decisions are now evaluated over multiple, dynamic, uncertain time periods, and now with consumption added in. Oops. Things look so different now!
- The evaluation of what constitutes a "good idea" shifts from single period median-wealth outcomes to either: a) multi-period lifetime consumption utility given a random lifetime, and/or b) the likelihood of ruin or severely diminished lifestyle at some point when it still matters, again over a dynamic and uncertain number of periods. Portfolio longevity > human longevity, an inequality we hadn't dwelt upon much before in the last stage.
- The game is no longer so much about median terminal wealth. The game is, rather, now all about a multi-period net-wealth process. The most salient thing to know about a net wealth process is that it can go to, or through, zero before the lifetime of the retiree is over. That's a bad thing. To recast the last point: human longevity > portfolio longevity is the same as "hurts."
- Consumption now has a palpable set of minimum physical and psychological minimums on the down side. There is a "floor." That floor commands an unusual amount of attention and gets a lot of our fret-time now, especially when we contemplate how long we might or might not live and how long our portfolio might or might not last.
- Human capital is either zero or severely depleted at this point. Fixing errors now gets way harder.
- Managing your work years and your accumulation to "your number" is now over. The question now becomes, as it always should have been: a) is my plan feasible (few ask this question), and b) is it sustainable (more ask this question but it is often misunderstood).
- The consequences of mis-steps are now potentially catastrophic. While many retirement bloggers and some wise academics are skeptical of the reality of the "ruin" concept in the modern world, the principle still wakes us up. In economic terms, we maybe can say that the disutility of running out of money is infinite. Or is it undefined? Or maybe the economic disutility of depletion, if we only have social security income at our disposal, is going to kind of suck rather than be infinite...unless we are already broke, in which case SS is going to feel pretty good.
- Making a fetish of high arithmetic returns is now a fools game. Not only do we now want the efficient frontier to bias to the left more than to the up, we also now look with a jaundiced eye at the returns at higher volatilities because we are now in multi-period time. Even Markowitz (2016) made it clear that you only get the geometric return in the end and there may be a point on the EF where it does not make sense to take more risk. Lower vol, sometimes, not always, wins. Add consumption to this equation and we now have even a stronger argument for lower vol strategies. It depends, though.
- Asset allocation, once the hammer that strikes all nails now (my opinion only) takes a back seat [only in a broad middle zone, not at the extremes] to other issues like spending, the year one retires, and the decision to buy or the availability of lifetime income. Ignore that so many people fret about the value of annuities and annuitization. Just know that the theory shows it will help lifetime consumption utility for reasons beyond this post.
- Longevity uncertainty is now potentially a terrifying concept. Jean Calmet may have been a fraud but, really, what do we do if we live to 122? Get a job at Taco Bell? How about spend less now or get an annuity, now?
- Sequence of returns risk (huh, what's that?) is now a real thing. Many ret-fin writers will (mostly correctly) tell you that bad returns in a decumulation setting is bad and they tend to be a little worse earlier in retirement rather than later in the lifecycle. The honest ones will tell you that it (sequence risk) is effectively a continuous process that unfolds in each moment because each moment is more or less the beginning of a new retirement. Google sequence of returns risk and beware.
- The reality of longevity uncertainty forces a choice on us, or should: either "reserve" early by spending less, or reallocate some of one's portfolio to lifetime income. The latter allows higher earlier total spending and a higher probability of higher lifetime consumption utility...but no one seems to want to do that (annuities). The former (scrupulously saving to have money for very late life if it unfolds) means you are more likely than not to get shamed by family, friends, and sometimes even one's advisor (like the one I fired for doing that) for being a putative penny-pincher. But then again, where will they all be when you are 105. That's right: not there.
- One's legatees are now very aware (or should be) of the burden of care should one live longer than the portfolio. Their interest, if not yours, in annuities should be one side of a two-sided coin, the other being the one where they want to get their grubby hands on your estate. If they were wise, they'd fork up for an annuity out of their own funds to hedge their downside. That's something I've never seen in the literature. But maybe they, the legatees, don't care. They should.
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