On Conventional Complacency

The Intellectual Rot at the Heart of Lifecycle Investing

It's one of the great ironies in quantitative finance: the models governing trillions of dollars in retirement assets are built on a set of assumptions so fragile they border on absurd. The entire lifecycle investing paradigm, codified in every Target-Date Fund on the planet, is a monument to a deeply flawed intellectual consensus.

We all know the canonical Cocco, Gomes, and Maenhout (CGM) model—human capital as a bond-like asset, the de-risking glidepath, the whole nine yards. It’s elegant, it’s neat, and a new paper from Anarkulova, Cederburg, and O'Doherty suggests it’s also catastrophically wrong.

Their central thesis, backed by a brutal nonparametric bootstrap of over a century of global market data, is that the optimal lifecycle strategy isn't a glidepath at all. It's a static 100% allocation to global equities.

The implications are staggering. According to their simulations, an investor in a standard TDF would need to increase their lifetime savings rate by 63% just to match the terminal wealth of an investor who simply ignored the consensus and held a globally diversified stock portfolio.

This isn't just another incremental critique of the model. This is a five-alarm fire in the heart of institutional asset management.

The Flawed Foundation

So how did we get here? How did an entire industry build itself on such a weak intellectual foundation? It began with the elegant, but sterile, early work of Merton, whose famous formula for optimal allocation suggested a constant, not age-dependent, exposure to equities:

$$\pi^* = \frac{\mu - r}{\gamma\sigma^2}$$

Of course, this was derived in a world without labor income or lifecycle dynamics, a purely theoretical toy. The CGM model was supposed to be the solution. By introducing "human capital" as a synthetic, bond-like asset, it provided the intellectual justification for the age-based glidepath that now dominates the 401(k) landscape, especially since the Pension Protection Act of 2006 effectively made it the default.

The logic is seductive: as you convert your "bond-like" human capital into financial capital, you must buy actual bonds to maintain a stable risk profile across your total wealth.

But the entire edifice rests on one laughably fragile assumption: that bonds are, in fact, a suitable long-term substitute for human capital and a reliable diversifying asset.

This is where the whole thing falls apart.

The Takedown

The Anarkulova paper doesn't just tweak the CGM model's parameters. It throws the entire parametric approach in the garbage. By using a nonparametric block bootstrap, they replayed actual market history—with all its fat tails, volatility clusters, and complex cross-correlations—rather than assuming some sanitized, log-normal world.

The results from this more realistic simulation were brutal.

The optimal strategy was to ignore bonds entirely and stay 100% in stocks, forever. The "de-risking" glidepath wasn't just suboptimal; it was actively harmful.

Let's Look at the Carnage

A direct comparison of the outputs is a bloodbath.

• Terminal Wealth: The all-equity strategy produces a median retirement nest egg of $0.74 million, compared to just $0.55 million for the TDF. That's 35% more wealth for a simpler strategy.
• Bequest Value: The median bequest for the optimal strategy is $0.96 million. For the TDF? A pathetic $0.27 million.
• Probability of Ruin: This is the real kicker. The single most important risk for a retiree is longevity risk—running out of money. The "safe" TDF results in a 19.7% chance of ruin. The "risky" 100% equity portfolio? Just 6.7%.

The TDF is almost three times more likely to fail.

This forces a complete re-evaluation of how we define "risk." TDFs are designed to minimize short-term volatility, a risk that is largely irrelevant over a 30-year retirement horizon. In doing so, they massively amplify the one risk that is catastrophic: the risk of ruin. The perceived safety of TDFs is a dangerous illusion.

The Correlation-One Catastrophe

Now, this doesn't mean a simple global index fund is a panacea. The paper's bootstrap methodology brilliantly captures historical reality, but it also highlights a critical vulnerability: tail events.

During a true systemic crisis—a pandemic, a Lehman-style collapse—the carefully constructed diversification of a global equity portfolio evaporates. Correlations go to one. Your US, German, and Japanese stocks all move in lockstep, straight down. In those moments, geographic diversification is revealed for what it is: a comforting fiction.

This is where the simple "buy and hold" mantra hits a wall. A superior strategy, for those who can execute it, involves building an antifragile portfolio. This isn't about paying for "active management," which is mostly just fee-skimming. It's about systematically incorporating strategies and assets that have a convex payoff during periods of high volatility.

It underscores the need for genuine diversification, not just across geographic equity buckets, but across:

• Strategies: Long/short, global macro, trend following.
• Frequencies: From high-frequency algos to decade-long venture bets.
• Directionalities: Positions that profit from moves up, down, or sideways.
• Asset Classes: Commodities, currencies, money markets, and esoteric alternatives.

For most retirement plans, this is a non-starter. But for sophisticated investors, it’s a crucial insight. The 100% global equity portfolio is a vastly superior baseline to the TDF. But layering on a true tail-risk hedging program is the necessary next step—a supplement to the core strategy, not a reason to retreat to the demonstrably broken TDF model.

Why The Simple Baseline Still Works

With that dose of reality, let's get back to why the simple 100% stock portfolio is so much safer for retirees than the TDF. Over the long horizons that actually matter, bonds are a drag. International stocks are a vastly superior diversifier and inflation hedge for a US-based income stream.

The story here is a slaughterhouse. Look at the 30-year numbers:

• Real Return: International stocks crush bonds, 7.03% to a pathetic 0.95%. It's not even a contest.
• Risk Accumulation: Here's the real trap. Bond risk accumulates over time (Variance Ratio: 2.30), while stock risk actually decays (Variance Ratio: 0.75). The "safe" asset gets riskier the longer you hold it.
• Inflation Hedge: Bonds get annihilated by inflation with a correlation of -0.78. International stocks? Essentially immune at -0.01.

The data is damning.

Bonds barely generate a real return, while international stocks offer significant growth. More importantly, the variance ratio shows that bond risk accumulates over time, while equity risk decays. And in the face of inflation, bonds are a guaranteed loser, while international stocks are largely uncorrelated.

The conventional wisdom to hold bonds in retirement is an artifact of a short-termist view of risk that is completely inappropriate for a multi-decade time horizon.

The Final Nail in the Coffin

The researchers' results were robust to sensitivity analysis. Higher risk aversion? Still 100% stocks. Later retirement age? Still 100% stocks.

But the most damning test was the labor income hedge. The CGM model posits that you hold bonds to hedge your "bond-like" human capital. The paper found that when an investor's labor income is correlated with the domestic stock market, the optimal hedge is not to buy bonds. It's to sell domestic stocks and buy more international stocks.

This doesn't just question the CGM framework; it guts it completely. International equity is a better hedge for US-based labor income risk than US bonds are.

So What Does This All Mean?

It means the entire regulatory and commercial infrastructure of the retirement industry is built on a flawed academic model. The Pension Protection Act of 2006 created a "safe harbor" for TDFs based on "generally accepted investment theories" that now appear to be not just wrong, but dangerous.

Any fiduciary or plan sponsor who ignores this evidence is, frankly, exposing themselves to significant legal and financial risk.

The real challenge, of course, is behavioral. The optimal all-equity portfolio is a volatile ride, with average drawdowns of 55% during an investor's working years. The average investor is not equipped to handle that kind of volatility without panicking.

And that's the cruel irony. The industry has defaulted investors into a product that feels safe but is mathematically dangerous, because the product that is mathematically safe feels terrifying. The optimal path is clear, but it requires ignoring an entire institutional framework built to lead you down the wrong one.