Downside risk protection of Retirement Assets: A new approach

Atanu Saha () and Alex Rinaudo ()
Additional contact information
Atanu Saha: Data Science Partners, Postal: 477 Madison Avenue, 6th Floor, New York, NY 10022; , , 1025 Westchester Avenue, Suite 315, White Plains, NY 10604,, http://datasp.com
Alex Rinaudo: Data Science Partners, Postal: 477 Madison Avenue, 6th Floor, New York, NY 10022; , , 1025 Westchester Avenue, Suite 315, White Plains, NY 10604,, http://datasp.com

Journal of Financial Transformation, 2017, vol. 45, 111-120

Abstract: Over the past few decades, 401(k) plans, IRA accounts, and other self-directed investment vehicles have become the most important pool of retirement savings, leaving retirees exposed to the risk of outliving their assets, a hazard largely absent from traditional pension plans. Prior research has examined asset diversification, annuities, put options, and dynamic withdrawals as ways to mitigate this risk. This study proposes an alternative: explicit downside risk protection (or DRP) at the individual account level. The proposed DRP takes the following form: in years the account suffers a loss, that loss is capped at a predetermined amount. In return for this protection, the account holder gives up a portion of the gains only in years where the account’s performance is positive. The net effect of this protection is to reduce the retirement account’s downside risk, significantly reducing the likelihood of early account depletion. A Monte Carlo simulation demonstrates that the chance of outliving one’s assets over a retirement horizon of 45 years drops from nearly 15% without DRP to about 4% with DRP. Furthermore, by eliminating extreme negative outcomes, DRP has the potential to increase the average portfolio return (even accounting for the cost of protection) while simultaneously reducing the portfolio volatility. This paper also demonstrates that DRP can be profitably offered by a financial institution. It provides lower bound estimates of the rate of return a financial institution is likely to earn by offering DRP to retirement accounts.

Keywords: Downside Risk Protection; Retirement Assets; Portfolio Allocation; Investment Vehicles; Institutional Investment Options; Monte Carlo (search for similar items in EconPapers)
JEL-codes: C58 D14 G00 G10 G11 G20 G21 G22 G23 (search for similar items in EconPapers)
Date: 2017
References: Add references at CitEc
Citations:

Downloads: (external link)
http://www.capco.com/insights/capco-institute/jour ... OURNAL45_12_Saha.pdf Full text (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:ris:jofitr:1601

Access Statistics for this article

Journal of Financial Transformation is currently edited by Prof. Shahin Shojai

More articles in Journal of Financial Transformation from Capco Institute 77 Water Street, 10th Floor, New York NY 10005.
Bibliographic data for series maintained by Prof. Shahin Shojai ( this e-mail address is bad, please contact ).