Last week, journalist Robert Powell interviewed me regarding my latest SSRN article, "Rational Agents in an Irrational World: The Effect of Fraud Shocks on Retirement Portfolio Success Rates." Three days ago, Powell published his piece, "How to prevent fraud from ruining your retirement," where he quoted some of my findings from my Rational Agents paper.
I am excited to see that some of my work is attracting media attention--not so much for the self-aggrandizing fame but more so to spread awareness of fraud throughout the financial planning community and beyond. What largely prompted me to write the Rational Agents paper was the desire to arrive at some remotely accurate figures of fraud's devastation on victims' lives. In this case, the retirement account suffers.
The Trinity Studies (so named because the authors of those papers all professed at Trinity University) posited a four-dimensional model for calculating retirement success: asset allocation (stocks-to-bonds ratio), time horizon (15-30 years in 5-year increments), safe withdrawal rate--the percentage of total retirement assets on day one of retirement that can be taken every year until death (3% - 12% in 1% increments), and finally, success rates. Since then, the parameters have changed somewhat so that the typical time horizon in the literature has extended to 40 years, and the magnitude has shrunk to 10% at the upper end (down from 12%). Also, the academic standard for a successful retirement is 90% or better.
Among other valuable insights Cooley et al. (1998) added to the retirement literature was the difference that accounting for inflation makes in the retirement calculation. When considering nominal dollars, they found that in many cases, 7% was a successful (safe) withdrawal rate. However, in real dollars (that is, accounting for inflation), that number dropped to 5% or maybe even 4% depending on the other variables in the model.
My contribution to the conversation revolves around the impact of fraud on the portfolio's success rates, holding everything else constant. On average, across all ranges of the other three dimensions (asset allocation, time horizon, and withdrawal rate), the retiree loses three percentage points in retirement success for each incidence of fraud. As Powell correctly noted in his piece, that may not sound like much, but consider that for some retirees, that's essentially amounts to one lost year of retirement funding. Also, for those who are serial victims (meaning the fraudster strikes each year), there is no scenario that spells success for the retiree. In the case of serial fraud, the best one can hope for (based on 100,000 Monte Carlo simulations) is a 58% chance of success.
I encourage you to read Powell's piece as he cites several important figures in the retirement literature. The key takeaway is that enjoying a successful retirement not only requires disciplined saving but carefully selecting your financial advisor as well as a lifelong commitment to your own financial education.