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Cut Stocks or Add to Them? A Key Dilemma for Your Retirement Plan

The 'right' glide path depends on what you're trying to achieve--and your attitude toward risk and volatility.

If there's one generally accepted principle in the realm of asset allocation, it's that young people with a long runway to retirement should start out with equity-heavy portfolios and only gradually transition to holding more in safe investments.

The basic idea is that young savers have many working years ahead of them, so they don't need to hold much in the way of safe investments; their salaries can supply their spending needs. But as retirement approaches, holding an allocation to safe investments like cash and bonds becomes more critical. How the portfolio's ratio of stocks relative to safe assets like cash and bonds changes over time is often referred to as a "glide path."

Yet even as the general shape of glide paths for accumulators is pretty much settled business, there's much less of a consensus among asset-allocation cognoscenti about the "right" shape of glide paths once retirement actually commences.

Should the glide path slope downward, shifting ever higher amounts into cash and bonds, the better to maintain liquidity and ensure stable consumption as the retiree's spending horizon shortens? Or should it start out bond- and cash-heavy and only ratchet up into equities later on, once the retiree has safely sidestepped the prospect of catastrophic losses early on?

Retirement researchers have parried over the subject. A 2013 research paper from Michael Kitces and Wade Pfau argued for a rising-equity glide path. The overarching thesis was that an initial equity-light posture can help retirees manage the risk of a lousy market environment occurring early in their retirements and improve the portfolio's overall sustainability over a long retirement. Meanwhile, research from Morningstar Investment Management head of retirement research David Blanchett found that the declining-equity glide path had the highest probability of success.

Ultimately, the "right" glide path for your retirement years is pretty individual-specific. It depends on your level of assets relative to your spending, your risk tolerance, and your ultimate goals for your portfolio, among other factors. In other words, there's no one-size-fits-all answer. All the same, I'd put the shape of your glide path on a short list of factors to consider when embarking on retirement.

Here are the three key in-retirement glide paths to consider, along with the pros and cons of each.

Glide Path 1: Progressively more conservative/declining equity. This is the glide path I used in my bucket portfolio "stress test." I assumed that long-term holdings would annually be stripped back once the position size exceeded a preset threshold (which I arbitrarily set at 110% of starting value). Because stock holdings regularly exceeded those thresholds but bonds did so much less frequently, in practice, I mainly rebalanced out of stocks. I redeployed the proceeds into cash, and once the desired cash allocation was met (two years' worth of anticipated spending needs), into short-term bonds. Because the rebalancing regimen led to regular reductions in equity weightings but didn't place an upper limit on fixed-income holdings, the portfolio became more conservative over time; the money in safer assets like cash and short-term bonds grew more quickly than our hypothetical retiree was spending it.

Pros: As noted above, Morningstar's Blanchett found that based on probabilities of success, "glide paths that decrease initially during retirement are potentially better than constant glide paths, and ones that increase initially are potentially worse." And because a declining equity glide path involves regularly moving assets from stocks into cash and bonds, that will tend to reduce a portfolio's volatility while also helping to ensure steady spending over the remaining horizon. As such, the declining-equity glide path may be particularly appropriate for older retirees who are aiming to ensure that their portfolio will be available to meet their spending needs but aren't as concerned about leaving assets behind.

Cons: There are a couple of drawbacks associated with a declining-equity glide path. The most obvious is that a portfolio whose equity holdings are declining will, over most market cycles of 10 years or more, tend to underperform one that maintains a steady or growing share in equities. Thus, a conservative-trending glide path may not be a good fit for growth-minded retirees--for example, those who are more than comfortable that their portfolios will last throughout their lifetimes and are equally concerned with growing their assets for bequests. Additionally, very heavy equity exposures at the outset of retirement, even if they eventually trend down, can leave a retiree vulnerable to sequence-of-return risk--encountering a catastrophic market environment early on in retirement. That, in turn, may reduce the portfolio's sustainability or force the retiree to spend less than anticipated.

Glide Path 2: Progressively more aggressive/rising equity. A retiree can achieve a glide path that grows progressively more aggressive in a couple of different ways. One would be to simply take a hands-off approach to rebalancing the equity holdings. Over typical market cycles of 10 years or more, the stock portion of the portfolio will gain more than bonds and cash and will organically grow larger as a percentage of the portfolio. Alternatively, a retiree can achieve an upward-sloping glide path by starting out retirement with an equity-light posture, then actively moving assets from cash and bonds into the market.

Pros: As noted above, a key benefit of a rising-equity glide path is that it can help a retiree reduce the impact of a poor sequence of returns; that was the thesis laid out in the aforementioned research paper from Kitces and Pfau. The risk of a bad returns sequence is arguably intensified given the extremely strong returns from U.S. equities over the past decade; in this video, J.P. Morgan's head of retirement solutions Anne Lester argues in favor of the rising equity glide path.

Cons: While a rising-equity glide path has appeal as a risk hedge for young retirees, a key risk factor is behavioral. If a retiree has experienced a big equity-market shock, will that same retiree have the appetite to add to equities?

Glide Path 3: Static. A static glide path is arguably the simplest and most familiar one to maintain, in that it relies on a regular rebalancing regimen to restore the portfolio back to its starting allocation. Most static-allocation funds, whether traditional balanced funds or other varieties, rebalance back to a fixed target asset allocation on an ongoing basis.

Pros: In addition to simplicity on the maintenance front, a static allocation splits the difference between the two approaches outlined above. Holding a fairly balanced allocation throughout the retiree's life cycle provides diversification for varied market environments that might present themselves: bonds and cash to meet living expenses in weak equity markets, and enough equities for growth in strong ones.

Cons: While earlier research from Blanchett (2007) supported the idea of a constant glide path throughout retirement, Blanchett's 2015 research found a higher rate of success from the declining-equity glide path. That's because the more recent research assumed that bond yields would gradually drift higher over time--a process that is arguably already under way--reducing the opportunity cost of higher bond weightings that come along with a declining-equity glide path.

Introducing Morningstar's New Podcast: The Long View Expand your investing horizons and look to the long term. Join hosts Christine Benz and Jeff Ptak each week on The Long View for wide-ranging conversations with leaders in investing, advice, and personal finance. Subscribe to and rate the podcast today, and access every episode here.

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About the Author

Christine Benz

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Christine Benz is director of personal finance and retirement planning for Morningstar, Inc. In that role, she focuses on retirement and portfolio planning for individual investors. She also co-hosts a podcast for Morningstar, The Long View, which features in-depth interviews with thought leaders in investing and personal finance.

Benz joined Morningstar in 1993. Before assuming her current role she served as a mutual fund analyst and headed up Morningstar’s team of fund researchers in the U.S. She also served as editor of Morningstar Mutual Funds and Morningstar FundInvestor.

She is a frequent public speaker and is widely quoted in the media, including The New York Times, The Wall Street Journal, Barron’s, CNBC, and PBS. In 2020, Barron’s named her to its inaugural list of the 100 most influential women in finance; she appeared on the 2021 list as well. In 2021, Barron’s named her as one of the 10 most influential women in wealth management.

She holds a bachelor’s degree in political science and Russian language from the University of Illinois at Urbana-Champaign.

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