How should people use Nest Egg Guru?
Unlike many competing calculators that project a "retirement number” or “probability of success”, Nest Egg Guru believes it is more instructive to provide users with a full range of simulation results into which their real-world investment experiences may be reasonably likely to fall. In doing so, calculator users are encouraged to pay greatest heed to the bottom 50% of the simulation results in evaluating their preparedness (i.e., hope for the best, but plan for the worst).
Once a user has run the simulation based upon his or her current inputted information, he or she is encouraged to run additional simulations to show how changing factors that are within his/her control (e.g., asset allocation, investment expenses, time horizon, saving/spending strategy, etc.) may affect the results.
Who are the ideal users of Nest Egg Guru?
Nest Egg Guru was designed as a tool for financial advisors to share with their clients. The input and results from the application are intuitive enough allow Nest Egg Guru to be offered as a white-labeled client-facing portal in the advisor’s website.
In terms of fit, it is important to understand the concept of “model risk.” The greater the similarity between the user’s real world portfolio and Nest Egg Guru’s underlying portfolio model, the more applicable the output is likely to be. The ideal fit for Nest Egg Guru is probably a user whose equity portfolio consists of a diversified mix of index funds and whose bond component is comprised of individual fixed income investments (e.g., CDs, municipal bonds, fixed annuity contracts, etc.).
What is the biggest difference between Nest Egg Guru and other retirement planning apps that employ Monte Carlo simulations?
Nearly all competing Monte Carlo apps frame their results in terms of probabilities of success or failure. However, a number of recent research papers and articles have challenged the value of assigning probabilities to inherently unpredictable outcomes, such as future investment returns.
In contrast, Nest Egg Guru believes the highest purpose of a retirement planning app is not to serve as a crystal ball, but rather to show users how their retirement savings and spending strategies may hold up under adverse conditions. By focusing users on the bottom half of the simulation results, Nest Egg Guru is not predicting dire conditions, but it is able to help users assess their preparedness and to show them how changing variables that within their control may impact their results. In our opinion, this is extremely valuable information.
What are some of the other features that distinguish Nest Egg Guru from other retirement planning calculators?
Recent published academic research has shown that how one’s asset allocation changes as retirement approaches can have a significant impact on their portfolio values at retirement. Nest Egg Guru’s Retirement Saving Calculator is the only advisor subscription app that allows users to test and compare constant allocation model portfolios and to the declining-equity glidepath strategies used in most target-date mutual funds.
Similarly, research has also shown that the manner in which one spends down a retirement portfolio may be among the most important factors in determining sustainability and remaining balances left for heirs. Nest Egg Guru permits users to test four different commonly applied withdrawal strategies.
While most retirement spending applications focus on generating a single probability of sustainability and/or helping users determine a maximum safe withdrawal rate, Nest Egg Guru believes that such emphasis may lead to inefficient spending strategies that, under normal economic conditions, may lead to overly large remainders for heirs (i.e., too frugal spending by the retirees). By presenting remaining balance data along with the sustainability results, Nest Egg Guru is unique in that it enables users to quantify the trade-off between withdrawal rate and sustainability and withdrawal rate and the amount that may be left for one’s heirs.
Nest Egg Guru is also the only retirement planning software that is available as a fully functional white label client-portal.
What are the underlying components of the stock, bond, and cash allocations that are used in the simulations?
Nest Egg Guru’s data set consists of monthly returns from 1970 through 2014. Large cap stocks are represented by the monthly returns from the S&P 500 Index. Small and mid-cap returns are represented by monthly returns from the Russell 2000 Index. Foreign stocks are represented by monthly return data from the MSCI EAFE Index.
For bonds, users may choose either the Merrill Lynch U.S. Corporate Bond Index or the 10-year treasury index as their proxy. The proxy for cash is the one-year treasury index. However, due to the historic low current level of interest rates, the bond and cash indices have been suppressed from the bootstrapping simulations and users are instead required to enter the return they realistically expect to be able to earn on bonds and cash today.
Why do Nest Egg Guru's calculators require the user to enter an expected return for the bond and cash allocations?
Early beta test versions of Nest Egg Guru allowed users to choose either the 10-year treasury index or the Merrill Lynch U.S. Corporate Bond Index as the proxy for the user’s bond allocation. The one-year treasury index served as the proxy for cash. However, random sampling of historical monthly returns using bond index data from 1970-2014 produces mean returns that are considerably higher than the rates consumers can expect to earn in today’s low interest rate environment. As such, the fear in using these indices as the bond/cash proxy is likely to produce simulation results that may be overly optimistic.
Although many retirement calculators still use historical bond data to produce simulations, from a stress testing perspective, Nest Egg Guru believes it is more prudent to allow users to enter the rate of return they could realistically expect to earn on bonds or cash at today’s rates. For bonds, it is suggested that users enter the current 10-year treasury rate or the yield on a 5-year certificate of deposit as a reasonable bond proxy. For cash, it is suggested that users enter the rate they can expect to earn on bank savings or money market accounts (e.g., 0-1%).
Note: Should interest rates eventually rise to approach the mean historical bond return, the afore-mentioned indices may be re-instated into the Nest Egg Guru inputs.
What is the sampling methodology employed by Nest Egg Guru to produce the 5,000 simulations?
Nest Egg Guru applies a sampling methodology called bootstrapping. With this approach, the 5,000 simulations for each specified time horizon are produced from random sampling of historical monthly return data. An advantage of this approach relative to traditional historical back-testing (also known as temporal order analysis) is that random sampling allows for simulation results that may be worse than the historical record. Simply put, in stress testing one’s portfolio, it may be prudent to consider the possibility of future return periods that may be worse than the historical experience.
While the bootstrapping techniques employed in Nest Egg Guru are a form of Monte Carlo analysis, this approach is different from the techniques applied in many other Monte Carlo simulation retirement planning applications. A more common Monte Carlo simulation methodology involves the calculator producing simulations based upon internal assumptions about the expected rate of return and standard deviation of various asset classes. Although each of these methodologies has certain advantages, a fundamental difference in applying bootstrapping is that it does not require the user or the application designer to make explicit assumptions about future rates of return or volatility.
Why does nest egg guru's retirement spending calculator only ask for a single value for the user's expected income need instead of requiring more detailed information about the user's anticipated living expenses?
Nest Egg Guru's founders have tested scores of competing calculators, including many that are extremely detailed and time consuming in their input requirements. It has been our experience that greater input complexity leads to a greater propensity for user input errors and actually leads to less reliable output (i.e., garbage in, garbage out). Further, we have observed that users prefer simple, intuitive applications and tend to eschew applications that require more than a few minutes’ worth of input work.
Nest Egg Guru also believes that budgeting should be an entirely separate exercise and that the annual income need from retirement savings (i.e., the amount to be withdrawn from the portfolio each year) can be boiled down to the difference between one’s total estimated annual living expenses and his/her income from other sources (e.g., social security, pension, rental income, annuities, etc.). If it is difficult to predict annual living expenses in retirement, then simply come up with a reasonable range and separately enter both the high and low figures for your anticipated income need into the Nest Egg Guru Retirement Spending Calculator and compare the results.