A sizable and growing amount of academic research has sought to identify the best ways to structure sustainable withdrawals from retirement accounts, with many authors concluding that flexibility is a key element in maximizing outcomes and preventing late-in-life insolvency.
Less attention has been paid, however, to the question of withdrawal frequency, which is why a recent paper authored by Stephen Horan tackles the issue head on. Is it better to take withdrawals monthly? Semi-annually? Once per year?
Horan, an associate professor at the University of North Carolina Wilmington and the executive editor of the CFP Board's Financial Planning Review, uses Monte Carlo simulations to test the question — and his results are likely to be surprising to some financial planners.
As Horan writes, there are intuitive reasons to believe that dividing retirement withdrawals into smaller amounts over more frequent intervals might help control volatility or sequence of return risk. After all, dollar-cost averaging is seen as an important tool during the accumulation effort, so why wouldn't a similar principal apply to retirement income?
Yet, the results of Horan's analysis actually show that withdrawal frequency has essentially no effect on retirement withdrawal sustainability — provided the withdrawal patterns allow money to be invested for roughly equivalent periods of time. Notably, the result holds whether one uses simulated or historical returns.
Despite the "negative result," Horan says, the paper offers up some important implications.
"First, financial planners may mistakenly believe that increasing or decreasing the frequency of withdrawals may improve a retirement portfolio's probability of success," Horan writes. "This is false. They should instead focus their attention on withdrawal rates, volatility and taxes."
Second, Horan finds, financial planners and retirees should focus on matching retirement withdrawal frequency to cash flow patterns. This can help to decrease transaction or financing costs, among other benefits.
"In fact, policymakers and financial specialists may revisit the wisdom of retirement account-linked debit cards to facilitate this cash flow matching principle," Horan argues.
Finally, the results also have important implications for common beliefs about dollar-cost averaging, Horan says. Namely, it is less useful in the withdrawal phase than many financial planners might expect.
Time in Market Matters More
At the heart of Horan's analysis is a review of retiree cash flow patterns that seeks to compare different withdrawal frequencies in a way that holds the retirees' "time in market" closer to equal relative to less sophisticated analyses of withdrawal patterns.
Applying this standardization method to different frequencies suggests that dollar-cost averaging frequency is essentially irrelevant in the context of retirement withdrawal optimization. That is, portfolio depletion does not seem to be correlated with either a faster or slower frequency of withdrawals, assuming that the underlying assets have been invested for roughly equal amounts of time.
