Is the 4% rule of thumb still relevant for living annuities?
9 Apr, 2024

Paul Truscott, Business Development Manager at Just SA



A commonly accepted retirement ‘rule of thumb’ has been that you should withdraw no more than 4% of the total value of your living annuity in the early stages of retirement if it is to be sustainable. But in a world of increasing longevity, volatile markets and heightened financial insecurity, is this rule still valid for retirees today?


It all goes back to two pieces of research in the US in the 1990s, when living annuities were launched in South Africa.  While neither piece is about living annuities per se, they gave the local retirement industry some direction as to how much income it was safe to draw from these new products on an annual basis and not run out of money.


In 1994, US financial planner Bill Bengen published the results of his retirement distribution strategy research, which showed that by drawing down 4% from a balanced investment portfolio[1], you would not run out of money over a 30-year period.


Another research paper, The Trinity Study completed in 1998, looked at drawdowns from various portfolio allocations from a 100% equity holdings portfolio to a balanced portfolio, over varying timeframes up to a 30-year planning horizon. It similarly revealed that over the same 30-year period, a 4% drawdown rate from either a 100% equity portfolio or a balanced portfolio yielded a 95% success rate – in other words, and perhaps somewhat worryingly, a 5% chance of running out of money.


Relevance of the research for today’s retirees


A lot has changed since both sets of research were conducted over two decades ago. Among other things, life expectancy has risen by more than six years since the start of the millennium[2], meaning we should be planning for a retirement period beyond 30 years.


Yet, there is still value to be gained from the findings.


The primary takeaway is that if your retirement investment portfolio needs to sustain your lifestyle for a longer period, you need to withdraw at a lower rate. The lower your withdrawal rate the higher the chance of maintaining your standard of living throughout your retirement.


Inflation and a rising cost of living make it challenging, however, to keep withdrawal rates low and as your real (i.e. after inflation) income needs rise so too, inevitably, does your withdrawal rate.


A significant allocation to equities in your portfolio could afford you a higher withdrawal rate but does come with increased volatility and periods of underperformance.


The temptation, then, is to turn to less volatile asset classes to increase income certainty. While bonds, for example, may help to increase the chance of success for low to average withdrawal rates, they can also significantly reduce the returns of your portfolio in the long term. That said, an allocation to bonds and the likely decrease in volatility of your portfolio could help mitigate sequencing risk i.e. the danger that the timing of your withdrawals will harm your overall rate of return.


Perhaps most importantly, the research findings suggest that even with a 4% drawdown, you are not guaranteed to not run out of money in retirement.


Are there any alternatives for retirees?


One alternative to living annuities are guaranteed life annuities. These allow you to have a higher drawdown rate or increase your consumption of your retirement capital, without having to rely on investment performance or worry about the risk of running out of money. This is because life annuity rates are higher than the recommended safe withdrawal rates from living annuities and income is guaranteed for life.


Currently, South African life insurers are offering annuity rates at highs rarely seen over the past 20 years. The main driver behind the sudden leap in annuity rates is the country’s long-term bond yields, which are at their highest since November 2002.




[1] A 50/50 mix of large cap U.S. stocks and government bonds, adjusted each year to inflation

[2] The estimates confirm the trend for longevity: lifespans are getting longer, World Health Organisation (2019)


@Paul Truscott
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