Improving the Outlook for a Successful Retirement: A Case for Using Downside Hedging

Harlow W.V., Keith C. Brown
2015 The Journal of Retirement  
One of the biggest risks to a successful retirement is the exposure of savings to one or more adverse negative investment returns in the early stages of the retirement. As such, the viability of downside hedging to mitigate this "sequence-of-returns" risk is an important investment question. In this study, we conduct extensive simulation analysis to show that for sustainable withdrawal rates, hedging with costless collars or with put options can eliminate or significantly reduce funding
more » ... uce funding shortfall risk for a retirement portfolio. In addition, we demonstrate with a few examples that, for a given level of shortfall risk, hedging can increase the income generated by retirement savings by almost 40%. Thus, downside hedging strategies within retirement portfolios appear to offer attractive benefits to the retiree worried about outliving their income resources. JEL Classification: G11, G17
doi:10.3905/jor.2016.3.3.035 fatcat:ov44ncaw2fc3rjcwfw2j7j5zmy