The Dynamic Implications of Sequence Risk on a Distribution Portfolio

Frank Sr., Larry R.; Blanchett, David H.
June 2010
Journal of Financial Planning;Jun2010, Vol. 23 Issue 6, p52
Academic Journal
• While a distribution portfolio's exposure to sequence risk changes over time, sequence risk never really goes away unless the withdrawal rate is constrained considerably • A practical method for advisers to measure this exposure to sequence risk is through evaluation of the current probability of failure rate. • The fundamental withdrawal rate formula is portfolio value ($X) times a withdrawal rate (WR%) to equal the annual distribution amount ($Y).Therefore WR% = $Y / $X. Because sequence risk relates to the order of returns, especially negative returns, when the portfolio value ($X) decreases, the inverse relationship increases the withdrawal rate (WR%), which results in an increased probability of failure. • The distribution period should be measured primarily from a fixed target end date rather than from the date of retirement (that is, based on life expectancy). This establishes a continuously reducing period of remaining years that reflects the distribution period likely to be experienced by retirees. This paper will discuss three methods advisers may use to evaluate the exposure of a portfolio to sequence rislc • Adjust WR% as market return trends suggest • Adjust portfolio allocation to mitigate exposure to negative market returns as market trends suggest • Start with a reduced WR% to reduce exposure to the impact of declining markets on the probability of failure Reliance on a single simulation to be accurate for a lengthy distribution period is not prudent. Rather, the current likelihood of failure should be reviewed regularly to ensure the withdrawal is still prudent.


Related Articles

  • THE STATIONARY DISTRIBUTION OF RETURNS AND PORTFOLIO SEPARATION IN CAPITAL MARKETS: A FUNDAMENTAL CONTRADICTION. Rosenberg, Barr; Ohlson, James A. // Journal of Financial & Quantitative Analysis;Sep76, Vol. 11 Issue 3, p393 

    The article discusses the probability distribution of stock market returns in a capital market and the fluctuations of asset supply and demand. It is noted that there is a problem with dynamic equilibrium theory, which is that the distribution of returns is static and that causes capitalists to...

  • THE INFLUENCE OF THE ABSOLUTE RISK AVERSION COEFFICIENT ON CHOOSING THE OPTIMAL PORTFOLIO. Marinescu, Daniela; Marin, Dumitru // Economic Computation & Economic Cybernetics Studies & Research;2009, Vol. 43 Issue 4, p43 

    The article examines changes in the optimal proportions of income or wealth invested in a safe active and in a risky active by an expected utility maximizing investor. It uses some local measures of risk aversion to derive the necessary and sufficient conditions for the problem of choosing the...

  • A NOTE ON MEASUREMENT OF SKEWNESS. Fogler, H. Russell; Radcliffe, Robert C. // Journal of Financial & Quantitative Analysis;Jun74, Vol. 9 Issue 3, p485 

    Certainly, the concept of skewness of returns and its role in the context of portfolio analysis has gained increasing attention in recent literature. Witness the studies by Alderfer and Bierman, Arditti, Jean, and Simonson. Each of these studies has treated skewness as the third moment of a...

  • Size and Earnings/Price Ratio Anomalies: One Effect or Two? Cook, Thomas J.; Rozeff, Michael S. // Journal of Financial & Quantitative Analysis;Dec84, Vol. 19 Issue 4, p449 

    Studies of size and earnings/price ratio effects together have produced contradictory results. Does one effect subsume the other or are there two separate effects?. This paper demonstrates that equity returns are related to both size and earnings/price ratio as well as the month of January....

  • The Efficiency Analysis of Choices Involving Risk. Hanoch, G.; Levy, H. // Review of Economic Studies;Jul69, Vol. 36 Issue 3, p335 

    The article comments on the efficiency analysis of choices involving risk. The main conclusions to be derived from this analysis, are negative as well as positive. On the negative side, one has to be very critical of using automatically the mean-variance criterion for choice among risky...

  • USING INVESTMENT PORTFOLIOS TO CHANGE RISK. Bierman Jr., Harold // Journal of Financial & Quantitative Analysis;Jun68, Vol. 3 Issue 2, p151 

    The article focuses on using investment portfolios in risk management. The effect on the variance of an investment fund through adding dependent investments is considered. A trend in risk analysis focuses on the mean and variance of the probability distribution of returns. The author notes that...

  • INFORMATION, INVESTMENT BEHAVIOR, AND EFFICIENT PORTFOLIOS. Baron, David P. // Journal of Financial & Quantitative Analysis;Sep74, Vol. 9 Issue 4, p555 

    The article reports on the effect of information on the investment behavior of a decision maker. The information on the probability distribution of returns on a risky asset like a portfolio or mutual fund can bring a decision maker to a risk aversion decision. The utility functions with convex...

  • Based on Monte Carlo Simulation Investment Portfolio VaR Risk Analysis. Guodong Chen // Journal of Convergence Information Technology;May2013, Vol. 8 Issue 9, p1071 

    This paper introduces VaR (Value at Risk) principle and uses the Monte Carlo simulation in investment portfolio risk analysis. Monte Carlo simulation may be used to calculate VaR even when a portfolio is strongly non-linear. The procedure of the method is simple and it can provide a great deal...

  • Mean-Lower Partial Movement Asset Pricing Model: Some Empirical Evidence. Nantell, Timothy J.; Price, Kelly; Price, Barbara // Journal of Financial & Quantitative Analysis;Dec82, Vol. 17 Issue 5, p763 

    The article presents an exploration into the empirical relationships between the alternative portfolio risk evaluation and selection models of mean-lower partial moment and mean-variance sub-forms of the capital asset pricing model (CAPM). Results are given, with moderating considerations...


Read the Article


Sorry, but this item is not currently available from your library.

Try another library?
Sign out of this library

Other Topics