Financial Services Review | 2010
Authors:
DOI: 10.61190/fsr.v19i3.4974
Journal: Financial Services Review
Year: 2010
Publisher: Academy of Financial Services
Document Type: Article
Open Access: All Open Access; Gold Open Access; Green Open Access
Cited by: 3
This paper advances the literature on the sustainability of retirement income by making consump-tion a stochastic variable instead of a constant real value, as previous papers have done. The paper continues to make the rate of return and date of death stochastic variables, as Milevsky and Robinson (2000, 2005) do. The sustainability of retirement income depends on the nature of the lifestyle that the retiree chooses. The difference in shortfall probabilities or risk of ruin between the variable cases and the fixed consumption case is significant, and so the adviser needs to take this into account. The difference in shortfall probabilities between making consumption a nonconstant but deterministic amount, and making it also stochastic, is not as important, because it does not reduce risk enough to make more aggressive consumption rates secure. Finally, making consumption correlated with the rate of return, which implies the family adjusts consumption as its wealth changes, reduces shortfall probabilities to a moderate extent. In general, an initial consumption of more than 4% of initial wealth is not sustainable for any likely set of conditions. In the very best case, an initial consumption rate of 6% is sustainable, but we think that case will fit very few people. © 2010 Academy of Financial Services. All rights reserved.
Probability of ruin; Stochastic consumption; Stochastic present value; Sustainable retirement