smorgasbord
Active Member
This article came out today and it made me depressed
The new savings target for a modest retirement: $8 million?
4% withdrawal or 25X expenses is the most accepted rule.
Garbage on all fronts.
The 4% rule came from Bill Bengen in 1994 and the followup Trinity Study in 1998 (now behind a registration wall, fake email addresses work). The new article today is completely wrong on the basis for the 4% SWR (should be SIWR). SWR = Safe Initial Withdrawal Rate, btw.
If you look at the table in the Trinity Study:
You'll see on the left that there are 5 different portfolios. The top are the initial withdrawal rates, and the table contents are the percentage chance of success. They did this by using historical information. For instance, the "20 years" period consists of all the 20 year periods from 1926 to 1995, of which there are 51. They also did it with just post WW-II numbers. Note this includes not just stock/bond returns but also inflation.
Bill Bengen himself went on reddit some years ago: I'm Bill Bengen, and I first proposed the 4% safe withdrawal rate in 1994. Ask me anything! : financialindependence
Since these initial studies, people have added the last couple of decades to the research (not much changed). People have also performed Monte-Carlo simulations to try to cover events that haven't happened yet, but that's really controversial since stock returns, bond returns, and inflation are all influences on each other so the simulation will cover things that literally won't happen.
There's also confusion over how the 4% SWR works. You don't withdraw 4% each year. Here is what it really is:
1) During the first year of retirement, you can withdraw up to 4% of your portfolio's value. Call that $X.
2) During the second year of retirement, you adjust that by inflation. If inflation is 3% then you can withdraw up to $1.03*X during the second year.
3) Continue until you die, leave the remainder to your heirs.
The idea behind this is that retirees will want a steady inflation-adjusted income stream no matter what the markets or inflation are doing. This is flawed thinking. During retirement, most people's spending goes DOWN. Think about it. At 40 years old you may be looking for active vacations (skiing, surfing, bicycling), but at 50 you may start to avoid the more dangerous things, and at 60 you're starting to ask how much walking will be involved. At 75 you're probably not traveling much. Yes, this does vary and these are generalizations. Read this: Why Most Retirees Never Spend Their Retirement Assets
So, when putting this into practice, there are all sorts of considerations:
1) How old are you when you retire? The younger you are the more time you need and the more you're likely to spend in the early years of retirement.
2) How tight is your yearly budget relative to 4% of portfolio? In other words, if your portfolio takes a hit, can you reduce your withdrawals without a major impact on your lifestyle? What gets SWR into trouble is when your portfolio drops 30% for a couple of years, yet you continue to withdraw what are now 15% of the portfolio's value each of those couple/few years. When the markets and your portfolio start earning well again, the size is too small to build back up while you're still withdrawing.
However, if you don't need all that money each year, you can cut back during the lean times.
3) Rates of return vary. These studies all use standard stock/bond return metrics (S&P 500, etc.). But, us active investors have and can continue to do better.
My favorite part: Despite the standard financial advice to move from stocks to bonds as you get older, you'll notice from the table that the 100% stock portfolio does the best, and the 100% bond portfolio does the worst. So, the advice to move to bonds is just as stupid as the "diversification" advice (really diworsification), IMHO.
We've seen "blue chip" stalwarts like GE crumble (and IBM, Xerox, and Cisco before it). I believe one has to fight the natural instinct to gather your marbles and move to so-called "safe" investments that really aren't as safe as advisors claim. As we've seen, dividends get cut quickly when things go south. For myself, the safest thing is to continue investing in high growth companies. Sure, when they go down they go down more than the staid companies, but on balance they go up way more over time.
NFA because I can only say what works for me. Do your own research.
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