TY - JOUR T1 - Practical Applications of Toward Determining the Optimal Investment Strategy for Retirement JF - Practical Applications SP - 1 LP - 6 DO - 10.3905/pa.7.4.369 VL - 7 IS - 4 AU - Javier Estrada AU - Mark Krtizman Y1 - 2020/04/30 UR - https://pm-research.com/content/7/4/1.8.abstract N2 - In Toward Determining the Optimal Investment Strategy for Retirement, from the summer 2019 issue of The Journal of Retirement, Javier Estrada (IESE Business School) and Mark Kritzman (Windham Capital Management and MIT) propose a new measure for evaluating retirement investing strategies: the coverage ratio. This metric is meant to replace the standard failure rate, which, the authors note, has two important shortcomings. First, it does not differentiate between failures that occur earlier rather than later in the retirement period, although most retirees would be much more averse to a strategy that fails earlier. Second, it does not acknowledge that most retirees would derive satisfaction from leaving a surplus as a bequest.The coverage ratio and its associated kinked utility function address both of these limitations. The authors then apply this utility function to both historical and simulated data to determine optimal investment strategies. For the historical results, the optimal asset allocation is highly aggressive, with an average allocation of 91% to stocks. For the simulated results, the optimal asset allocation was more conservative and varied in accordance with conventional wisdom: i.e., investors should increase stock allocation as expected returns rise, standard deviations of returns fall, and retirement period becomes longer.TOPICS: Retirement, quantitative methods, portfolio construction ER -