Creating Sequence of Returns Illustrations




Welcome to this video highlighting the Sequence of Return features found in The Retirement Analysis Kit, or TRAK’s, Quick Gap and Gap Analysis calculators. Sequence of Returns is a newer tool in the calculator to highlight what would happen if they invested in a market and the volatility the market may have historically. It’s an answer to “I’d like to do Monte Carlo, but I’d like to keep it where somebody can understand.”

In today’s short video I’m going to highlight the features in the Quick Gap calculator but the exact same features can be found in the Gap Analysis calculator as well. I’m going to hide the ribbon bar by clicking on the up arrow over here. I’ll give you a little bit of the scenario I have with the client here and then we will jump in and look at the analysis.

I’ve got some data entry here. We’ve got setup a custom retirement plan called Joe’s Tool Shop. How much money they’ve got in here. Custom retirement plans can be setup here and there is a video specifically about working with custom retirement plans so I won’t go into any detail on that. And for this client, under the Other Accounts, I have an IRA setup with $150,000.

Jump back to their retirement plan and let’s take a look at their scenario. So, looks like their money will last until they’re 85 and then they’re going to run out of money. And if we look at the General Values they are 93% funded. What would happen if they had historically invested in a market? So we’ll jump over to the Sequence of Returns calculator, its right here. And we can grab this tab and move it over if you use it more frequently and want it farther to the left. You can move these tabs around. I’m also going to do one more thing, right here is a little slide bar, you can see the three dots here indicating that, and the cursor changes. When I click on that bar which is going to hide the data entry and I can talk specifically about the Sequence of Returns calculator.

Over here we have an index. We’re going to select how we configure the index and once we configure the index we’re going to click on the analysis after that. Let’s talk about the index configuration. We’ve got a number of built in indexes here, we can take a look at which one’s we’d like to be invested in. If you want to do a Blend of Indexes you can set that up and setup which one’s their invested in or you’d like to illustrate.

All of the accounts which in this case is both their 401(k) and their old IRA. And the time period: now through retirement or retirement years only, when does the historical index get applied to. We’ll select retirement years only in this situation.

And if you want to limit the data in the index, exclude some earlier years, you can set that up right here and say what year the index is supposed to start.

And then apply limits to the rates of return. If you want to apply annuity limits such as a monthly cap at 2.5% and an annual minimum rate of return which would typically be zero, and then setup an annual fee down here. I’m going to turn the limits off. Oh well, let’s take a look at the limits for just a moment. If we look at the accumulation you can see the step-ups in the limits. And then if we turn this off you’re going to see the volatility that the limits breaks. And then we can also look at the data as well.

So that’s the configuration of the index. Once we have it configured we can click over on the analysis and it starts running multiple scenarios, lots of data really fast, show how the index gets applied. You can see that in the late 90’s, early 2000’s the red here indicating an additional lump sum they needed at today to fund retirement. The blue indicating the projected account balance had they retirement in that specific year, they would have had sometimes plenty of money. It looks like most years a success, a number of years in the late 90’s, early 2000’s were a failure.

And we can take a look here. A 16% chance of failure given this scenario historically. We also can do a comparison. We can compare the retirement ages showing that the earlier they retirement, the higher the chance of failure, the later they retirement the higher the chance of success in the historical market.

Also the impact of life expectancy and the impact of inflation on that. So we can do a quick analysis with this person and take a look at what does the historical market look like and how would it work. I also want to highlight one other area. If we put them in a defined benefit plan, I’ll select Cal STRS, and this is now going to apply.

We have a few accounts here, we’ve got the DB supplement plan that CAL STRS has and I’m just going to leave that empty, but we do have the one account over here, the IRA. So we can go back and look at Retirement Years, we can see that they’re fully funded so I’m going to drop this person’s retirement age to 62. Now we have a little shortfall a little more typical retirement age for someone working in the state pension system. So now what does the Sequence of Returns look like for this individual? I’ll click on the analysis and while that’s analyzing I’m going to hide the data entry simply by clicking on that bar that I had before.

You can see that the defined benefit plan is a little slower than the defined contribution plan, there’s a lot more analysis. And again we see some failure in the late 90s, early 2000s, a little bit in the 2007, 2008 time frame. We can take a look at the summary of this data and this is a 17% chance of failure now. You can see over here that it’s still generating some of the other scenarios. If I look at inflations it’s still working on that, life expectancy is being calculated. It’s calculating that in the background as we walk through this. Retirement Ages, you cans see the dramatic change of a couple years earlier significantly impacts the likelihood of success given this index. Life expectancy, the impact of that. And also inflation, that’s still being calculated.

So that gives you a good quick overview of the Sequence of Return calculator. A couple quick notes on some other features. If you have questions about specifically what these different limits apply and how they work, the F1 key will get you there very nicely.

And then over on the far right on the Index Configuration tab we’ve got a number of options here. Probably the most significant being: do you want to wrap the index around the end? So if you have a 20 year index, and this index goes to 2018 so you can start as late as 20 years earlier but as you get closer to the end of the index as you get past that 20 year period, if you start in 2002 and go to 2022, do you want to wrap around the end of the index? It provides more analysis if you provide the wrapping, a little bit technical on that side.

But that gives you a good working idea. Again, the F1 key will give you a good overview of the specifics on the limits and how they apply to the Sequence of Returns calculator. But this just adds a deeper analysis to a client rather than the simple compounded rates of return we want to provide some additional analysis, this allows you to say this is what a historical market would have looked like.

My name’s Ed Dressel, I appreciate you taking the time to watch this and my best wishes in today’s market.