Pensionize Your Nest Egg

MOSHE A. MILEVSKY is Associate Professor of Finance at the Schulich School of Business and a member of the Graduate Faculty in the Department of Mathematics and Statistics at York University in Toronto. ALEXANDRA C. MACQUEEN is a Certified Financial Planner professional in Toronto.

• List of Exhibits xiPreface xvPreface to the Second Edition xvPreface to the First Edition xviiHow to Use This Book xviiiIntroduction: Why Retirement Income Is Better than Retirement Savings 1PART ONE: WHY YOU NEED TO BUILD YOUR OWN PENSION PLAN: THE MOST PREDICTABLE CRISIS IN HISTORY 7Chapter 1: The Real Pension Crisis 9Up a Creek without a Pension Paddle 11Mixing Defined Benefit Apples and Defined Contribution Oranges 12It Takes Two to Tango: A Basic Lesson about the Nature of True Pensions 22Guarantee versus Ruin 23When Is a Pension Not a Pension? 24There Ain’t No Such Thing … as a Free Pension 25The First True Pensions 27Chapter 2: Planning for Longevity: Risks While Waiting for Your Return 31The Grim Reaper’s Coin Toss 35Introducing Longevity Risk 36Predicting Future Longevity 39How Should You Insure against Longevity Risk? 41Will You Get Heads … or Tails? 41Chapter 3: How the Sequence of Returns Can Ruin Your Retirement 43How Long Will the Money Last? 44Clockwise Investment Returns 47Counterclockwise Returns 49Triangles, Bulls, and Bears: The Retirement Income Circus 51Can Buckets Bail Out a Poor Sequence of Returns? 52Chapter 4: Inflation: The Great Money Illusion 55What Does This Mean for Retirees? 58The CPI-ME and the CPI-YOU 60Does the CPI Measure Your Spending? 62A Reality Check for Your Retirement Spending 63What Have We Learned So Far? 64PART TWO: DEVELOPING A SUSTAINABLE RETIREMENT SOLUTION: THE MODERN APPROACH THAT IS HUNDREDS OF YEARS OLD 65Chapter 5: Beyond Asset Allocation: Introducing Product Allocation 67Product Allocation: New Baskets for Your Nest Egg 67Three Product Silos 68The Spectrum of Retirement Income Silos 70How Do the Silos Stack Up? 72Chapter 6: An Introduction to Life Annuities 73Pension Contributions as Insurance Premiums 74Buying a Personal Pension 75When Should You Buy an Annuity? 77Annuities versus Term Deposits 79Is the Annuity Gamble Worth It? 81Great-Grandma’s Gamble 81The Power of Mortality Credits 83What about 50-Year-Olds—Should They Buy Personal Pensions? 84What about Interest Rates? 87How Can I Use Annuities to Protect against Inflation? 89Unique and Personal Insurance 90Chapter 7: A Review of Traditional Investment Accounts 93Asset Allocation in Your SWP 95What Should You Put in the SWP? 96Chapter 8: Introducing the Third Silo—Annuities with Guaranteed Living Benefits 99Guarantees and Growth: How Variable Annuities with Guaranteed Living Income Benefits Work 101Evaluating an Annuity with Guaranteed Living Benefits: How Should You Choose? 104Chapter 9: Your Retirement Sustainability: Fundamental Concepts in Retirement Income Planning 107Which Glasses Will You Wear? 109How Many Eggs Can You Withdraw from Your Nest? 110What Should You Protect Against: Floods or Meteorites? 113Do You Feel Lucky? Pensions, Survival Probabilities, and Spending in Retirement 114Pensions Change the Game 114How Does Pensionization Impact Your Retirement Sustainability Quotient? 116Pension Annuities: Step-by-Step Math 122The True Gift of Pensionization 124Chapter 10: The Most Diffi cult Question You Will Ever Have to Answer (About Your Retirement) 125Retirement Sustainability or Financial Legacy? 127Pricing Your Inheritance 128Finding Your Spot on the Frontier 130Chapter 11: Divvying Up Your Nest Egg 133Creating a Retirement Plan for Robert Retiree: Cases 1 through 10 133What Is the Cost to Pensionize? 137When Should You Pensionize? 140When Should You Turn Your Living Benefi t On? 141Chapter 12: A Deeper Look at the Promise of Pensionization: Revisiting the Two Gertrudes 147Activating the Time Machine: Gertrude at Age 65 148Lifetime Income: Now or Later? The Implied Longevity Yield 150Lifetime Income: Now or Later? The Role of Changing Interest Rates 152A Tool to Help with Your Decision: The “What If I Wait?” Analyzer 155Moving Beyond Yield: Understanding the Cost-Benefit Trade-off of Pensionizing Your Nest Egg 157Pensionizing: Financial and Nonfi nancial Benefits 160Summary of Part Two 161PART THREE: THE SEVEN STEPS TO PENSIONIZE YOUR NEST EGG 163Chapter 13: Step 1: Identify Your Desired Retirement Income 165Estimating Your Desired Income from the Top Down 169Estimating Your Desired Income from the Ground Up 169Chapter 14: Step 2: Estimate Your Existing Pensionized Income 173Public Pensions in the United States, United Kingdom, Canada, Australia, and New Zealand 174How Much Will You Receive? 174Benefits from a Defined Benefit Pension Plan 175What If I’m Worried about the Future of My DB Pension Plan? 177Timing the Retirement Decision 177Completing Step 2 177Chapter 15: Step 3: Determine Your Pension Income Gap 179Your Average Tax Rate 180Your Pension Income Gap 181Adjusting for Inflation 183Chapter 16: Step 4: Calculate Your Retirement Sustainability Quotient 187What Kind of Eggs Do You Have in Your Nest? 187Filling the Gap 188Chapter 17: Step 5: Assess Your Plan: Is It Sustainable? 193Chapter 18: Step 6: Calculate Your Expected Financial Legacy 197Chapter 19: Step 7: Use Product Allocation to Pensionize the Right Fraction of Your Nest Egg 199Case Study: Jack and Jill Go Up the Hill (to Fetch a Retirement Income Plan) 200Step 1: Identify Your Desired Retirement Income 201Step 2: Estimate Your Existing Pensionized Income 202Step 3: Determine Your Pension Income Gap 202Step 4: Calculate Your Retirement Sustainability Quotient 203Step 5: Assess Your Plan: Is It Sustainable? 204Step 6: Calculate Your Expected Financial Legacy 206Step 7: Use Product Allocation to Pensionize Your Nest Egg 207Summary of Part Three 208Final Thoughts 209Notes 213Bibliography 219Acknowledgments 221About the Authors 223Index 225