Solving the Decumulation Puzzle with Dynamic Asset Allocation and Annuities

Abstract

This article presents a framework that solves the post-retirement investment and consumption problem by maximizing the utility of consumption over time. The model produces optimal solutions on asset allocation, consumption, and annuitization in retirement with consideration for longevity/mortality risks. The optimized investment solution is a function of wealth and age that can accommodate for different risk aversions and life expectancies. We find that annuities offer the most utility for investors with higher wealth relative to their guaranteed income and are more effective when purchased within certain age bands. Compared to traditional glide-path type approaches, the optimized solution provides life-time consumption profiles that are superior in both the average and downside cases.