I have been having a few thoughts lately about withdrawal rates, spurred by a comment a few months ago on my previous post on the subject. Many investors don't realize what usually happens in a withdrawal scenario. When they look at a Safe Withdrawal Rate (SWR) table like that from the Trinity Study, (reproduced below) they simply try to figure out how to have a 100% success rate (i.e. never run out of money.)
With our current low-interest rate environment, and many gurus projecting low future stock returns, some investors even argue that the Safe Withdrawal Rate should be 3.5%, 3%, or even 2.5%. I think that's kind of silly for several reasons I've discussed before and will discuss again in this post.
However, what people DON'T really think about, is just how much money they are likely to have left if they go for a “100% success SWR.” In order to look at that, it is worthwhile looking at a paper by Phillip Cooley in the Journal of Financial Planning.
In this paper, Cooley et al included this table, which shows how much money you have left, on average (technically median), using any given withdrawal rate adjusted for inflation.
This table assumes a starting portfolio value of $1,000. So if you use a 4% withdrawal rate (adjusted each year for inflation) and a 50/50 portfolio, on average, after any historical 30 year period, you would be left with $2,971 at death. That's right, on average, you die with three times as much money as you had upon retiring. Even with a 5% SWR you will on average end up with more than you started with. Surprised? Don't be. That's just the nature of averages. That's why it's called a “Safe” withdrawal rate. It's very safe. You can take out more money, and may even do okay, but that would be a risky withdrawal rate. You know, 6 or 7%.
Six Other Reasons To Avoid Hyper-Conservatism
There are other good reasons not to use some ridiculously low withdrawal rate (like 2.5%.) You all know I like lists, so here's another one.
# 1 You probably won't live for 30 years after retirement.
Remember that if the odds of you running out of money in 30 years are 10%, and the odds of you actually living 30 more years are 10%, then your actual risk is 1%. That's lower than the risk of an experienced mountaineer dying on Mt. Everest (1 in 64, it's 1 out of 5 on K2.) At any rate, if you retire at 65, your life expectancy as a man is 18 years (20 as a woman.) Chances are not great you will make it 30 years. Now if you're retiring at 45, then I think it's a good idea to be a little more conservative, but you get my point.
# 2 Nobody actually follows a fixed SWR
Everybody I know in real life retirement keeps track of how they're doing. If their returns are poor, they cut back, tighten their belt, cancel a few vacations, give less to charity, give less to heirs and make it work. When times are flush, they spend a little more. Retirement withdrawal rate researchers like Wade Pfau are starting to acknowledge this fact in their work, but real retirees like Taylor Larimore have known this for years. In a recent forum post, Taylor explained his simple strategy:
I retired in June of 1982 at the age of 57. We had about a $1 million dollar portfolio to last us the rest of our lives. I didn't know about safe withdrawal rates (the Trinity Study wasn't published until 1998). We had no computers, Internet, Monte Carlo, or sophisticated calculators. We only knew that we had to be careful to make our money last ($1M at 4% = $40,000/year before tax).
So what happened? We simply withdrew what we needed and kept an eye on our portfolio balance. Most years our balance went up and we spent the money on vacations, luxuries and charity. When our balance went down we tightened our belt and economized. This is what most people do and it works.
# 3 Most Retirees Spend Less As They Go
Retirement spending follows a curve where it is highest the first few years of retirement when lots of purchases are made and traveling is done and then gradually decreases until just before death, when it ramps up dramatically with medical and/or long-term care costs. So if 4% (indexed to inflation) provides plenty of money for those first 5 years, it'll probably be more than enough for the 20 after that!
# 4 75% Certainty Is Good Enough
The Trinity Study authors themselves suggest 75% certainty is “good enough.” Even William Bernstein, who is quite conservative with regards to future expected returns, has written that going for anything more than 80% is foolish because there's a 20% chance of your country imploding at some point during a 30-year retirement. Well, 75-80% certainty over a 25-30 year retirement for a portfolio of 50-75% stocks corresponds to an SWR in the 5-6% range. That's 25-50% more money to spend each year in retirement. That's hardly insignificant.
# 5 Your AUM Advisor Has A Serious Conflict Of Interest
Your advisor, especially if paid a percentage of assets under management (AUM), may suggest you only withdraw 2.5-4% of your portfolio each year. However, always remember his bias. First, the larger your portfolio gets the more he gets paid. The biggest threat to your portfolio as a retiree is you spending it! So if he can keep you from spending it, his paycheck gets larger. AUM fees are the best kind of passive income! Second, he's only going to get in trouble if you run out of money and live a long life. If you die with lots of money, nobody is going to get mad at him. But he could really care less how often you go on vacation, how much you give to charity, or how comfortable your retirement is. Higher portfolio withdrawal rates are all downside to him, whereas they are a mix of upside comfort and downside risk with you.
My dad out turning money into happiness flying to his favorite hunting spot
# 6 You're Probably Too Conservative Already
Those who acquire large nest eggs and those who read financial blogs like this one are honestly very unlikely to ever run out of money. It is really hard to go from saving and investing during the accumulation stage to actually spending your money in retirement. My parents have been fully retired for several years now, living on a pension. This year my dad starts taking Social Security. If it wasn't for the IRS mandated RMDs I don't think I'll ever get them to start spending anywhere near 4% of their stash each year. They didn't become affluent by being spendthrifts, and who is going to change habits after half a century of living?
One Invalid Reason
Some think it reasonable to increase the SWR because the original Trinity Study used large cap equities only. However, I think that's probably not valid. Yes, they used only large cap equities, and small cap and value equities probably have a higher expected return. However, they also used long-term corporate bonds- not exactly the short term treasuries that many investors are using today in their portfolios. While none of us really know what to expect out of equities in the future, bond returns over the next 5-30 years are very likely to be lower than they have been over the last 30 given the interest rates we are starting from. Those two factors probably cancel each other out…at best.
The other factor that far too few investors take into account is the effect of advisory and other portfolio fees. If you're paying 1% in fees, your 4% is really 3%. [Update: I was challenged in the comments section below by someone who cited Kitce's study about how a 1% AUM doesn't lower your SWR by a full 1%. I found the argument weak in that it certainly DOES lower your withdrawal rate by 1% of your assets in year one and that whether it lowers the SWR by 1% or not, it still lowers the amount of money you have to spend by the amount of the fee, which is really the point of my statement anyway.] Why any retiree would consent to have 1%+ AUM fees assessed against their portfolio when there are asset managers willing to do it for far less (or even a flat annual fee of just a few thousand) is beyond me, but I'm sure there are plenty of retired docs out there paying $20K+ a year in asset management fees.
The Bottom Line on Safe Withdrawal Rates
As I've said many times, the point of the Trinity study wasn't that the SWR is 4%, it was that the SWR is not 8%, 10%, or even 12%. Start with something around 4% and adjust as you go. Staying flexible is immensely valuable both in increasing your ability to spend as well as decreasing your likelihood of running out of money if you are lucky (unlucky?) enough to live into your 90s. Better yet, put a floor under your spending with Social Security, pensions, and perhaps even a SPIA or two and then have at it with your portfolio withdrawals.
What do you think? Were you aware that most who followed a 4% SWR rule die with more than they started retirement with? How are you (or how do you plan to) managing your retirement withdrawals? Comment below!
Can you speak to withdrawal rates for longer than 30 year retirements? Or any finance papers that do? It seems that most data is based on a 30 year retirement starting at age 65. There is no way I can imagine working until that age at this point.
Thank you for this post. This is very fitting for me – I have probably already oversaved. I have several million and struggle about picking a retirement (or slow down) date. Like the first post, I would like to see information on a 40 year plan because I am in my mid 40s now. I have used a 3% rate to convince myself that $4-5 mill is not enough yet. I have no AUM fees because I invest myself with Vanguard. I’m sure these points and the habits I have developed in spending and investing the last 15 years are unlikely to change dramatically.
Hi PR – I am not a financial expert but from what I’ve read/seen, you definitely have enough latitude to start slowing down at the very least. It is all up to what you want but at this point (mid 40s with 4-5m and relatively frugal living), you’ve already made it! I am saying this because one of my peers retired early about 4 years ago at the age of 45 ( he is about 10 years older than I am) with a portfolio of approx 5m. He is loving life and I hope to follow in his foot steps in 10 years myself. On another note, I recently had a peer that passed away suddenly while playing soccer with his kids. He has been wanting to slow down/partial retire for the past few years but despite having a networth of approx 4-5m, he was always worried about money (??). He was only 44 and pretty healthy – now he leaves a wife and 3 kids and a ton of cash he will never spend. :T Food for thought.
Well, the good news is he left that wife and kids with $4-5M. Far better than $400K.
Being highly invested in equities in retirement does create possible risks.
Can one afford a 50% loss in portfolio value?
Will that affect your lifestyle?
To be more aggressive in retirement, one should plan to oversave by 25%.
That gives you much more leeway going forward
Obviously past data is not a guarantee of future results
It is true in retirement living expenses are generally lower and mos that retire at 66 DO NOT have 30yrs to provide for
Another great article Keep up the good work
One doctor at a time joining the ranks of DIY investors
On the issue of bonds in the trinity study, wade Pfau replicated the study using intermediate term government bonds. He also ran the study out to 40 years. Here is a link to a Forbes article about it. There is a table if you scroll down.
http://www.forbes.com/sites/wadepfau/2015/06/10/safe-withdrawal-rates-for-retirement-and-the-trinity-study/
The good news is that the success rates are slightly better.
“We can also see how sensitive results are to withdrawal rates, as for instance with 30-year horizons and a 50/50 portfolio, the success rate is 100 percent with a four percent initial withdrawal rate, and it falls to 68 percent with a five percent withdrawal rate, and only 43 percent with a six percent withdrawal rate.”
1) When you have 30+ years of compounding and market fluctuations, the end results are extremely sensitive to initial assumptions (and future market performance), so in fact we should not use this as a look up table, and instead be MORE conservative than the table would recommend. It is better to have extra money than run out of money. However, we might not have that much choice in the matter in light of 2).
2) Whether to withdraw 3% or 4% or 5% is a moot point. RMDs will most likely drive the withdrawals for most docs, and RMDs are nowhere near as nice, so your overall rate will be much higher (depending of course on the percentage of assets that one has in tax-deferred accounts):
AGE PERIOD PERCENTAGE
70 26.2 3.82%
71 25.3 3.95%
72 24.4 4.10%
73 23.5 4.26%
74 22.7 4.41%
75 21.8 4.59%
76 20.9 4.78%
77 20.1 4.98%
78 19.2 5.21%
79 18.4 5.43%
80 17.6 5.68%
81 16.8 5.95%
82 16.0 6.25%
83 15.3 6.54%
84 14.5 6.90%
85 13.8 7.25%
86 13.1 7.63%
87 12.4 8.06%
88 11.8 8.47%
89 11.1 9.01%
90 10.5 9.52%
Yes you have to pay tax on your RMDs but you do not have to spend it. You can reinvest it in a tXable account. Vanguard has a recent article on that as well
This is true! Good point.
If your portfolio has 50% tax deferred and 50% taxable, a 4% withdrawal rate from tax deferred would still means under 4% withdrawal rate for combined.
Of course one can pay taxes and reinvest that money as well.
Right, it is key to have a taxable account. This can also help if you want to avoid RMDs via Roth conversions.
It is pretty simple actually. If you invest for income you should be getting about 4% return on your initial investments. If you spend less than that each year on budgeted items you never run out of money. Now being frugal for my entire life I don’t really want to spend large amounts of money on travel etc. As you get closer to the end of your life and therefore the risk of outliving your money you can donate your assets as you see fit, a trust is a great way to do for some of it.
Upon closer examination, I take back what I said about the results being better with the treasuries. It all depends on what part of the table you’re looking at.
Vanguard’s research department put out a paper in 2012 that investigates safe withdraw rates out to 40 years: http://www.vanguard.com/pdf/s325.pdf. As you would expect the safe withdraw rates start drifting from 4% to 3% as you head out to 40 years from 30 years. This paper was based on projections from the Vanguard Capital Market Model so take everything with a grain of salt. I believe Pfau and Kitces (and probably others) also have done studies out to 40 years, but I don’t have ready access to them.
Another great post. I think the greatest value of the trinity study was the realization that you could not safely withdraw 8-10% of your stash as people thought in the 90s. It is just a guideline. It allows you to come up with a number to shoot for. I know intellectually that I have more than enough money to never have to eat alpo but as you slow down it is reassuring to run these numbers from time to time. My new favorite calculator is on Personal Capital.
Hatton- I am having trouble getting past the fact I have to sign up for Personal Capital to use their tools. After you did, can you use their tools without actually linking any of your actual accounts?
For those of you not familiar with FIREcalc, it is worth taking a look at. Play with the Investigate tab. It helped me get comfortable with becoming more conservative in my asset allocation as we approach retirement.
http://www.firecalc.com
A newer calculator that looks at how asset allocation effects SWR is below. Just be careful with the time frame as it doesn’t go back as far as FIREcalc.
http://portfoliocharts.com/portfolio/withdrawal-rates/
Dr. Mom
I caved in and signed up with personal capital recently. Their security looks very similar to Chase banking that I use.
initially just the thought of having all my passwords in one place scared me a lot, however half the sites have security questions on top of the passwords that are not stored at personal capital website.
For me I found the convenience of having all accounts together not only very convenient but also reassuring, as I can tell by one look how much cash has moved out of my different banks and different CC expenses without going to their websites. If there is any major change in money movement and you know your accounts round about numbers, its really easy to spot on PC.
Yes you have to sign up to use their calculator.
I dont think you have to link accounts but linking them gives it a fair starting point.
Dr Mom, I signed up with personal capital several years ago. My money is at Vanguard. I was using Mint prior to this. Every so often a financial advisor fro pc calls and solicits business. I think everyone worrys about id theft and hacking but I guess I just believe they are as safe as a bank or vanguard with your info. I looked at your link. What I like about pc is it figures your exact allocation to small cap, alternatives, reits, etc by pulling the info from all your different funds and etfs. It also generates a nice chart that shows EXACTLY how much in fees you are paying to fund companies. The calculator is simple to use and is based on what data you have linked. Prior to my cutting my hours and stopping Ob I think I put my numbers into every calculator that works on a mac. I still find it reassures me to run them on new calculators when I hear about one.
Thanks Hatton. Could you expound a little on why you decided to keep working as opposed to fully retiring given your portfolio seems more than adequate? For us, we plan to work less through our sequence of returns risk window to where we may not contribute to retirement anymore but neither will we be withdrawing from it. Just curious if that idea played any in your decision or if you were just ready to be done with OB?
Dr ‘Mom,
The top 10 list of why I still work……net worth $6.5 mill plus husbands
1. I am only 58. It seems to young to retire.
2. Longevity risk. My father lived to be 92 despite a history of smoking And drinking. I have no health issues so far. Low normal BMI. I worry about 100
3. I provide jobs for my staff.
4. I can lower my health insurance premiums by having at least one employee.
5. Enjoy working now that essentially I have no call, weekend, or holiday work.
6. Medicine still provides with a sense of helping others that no other career option could provide
7. No longer feel rushed with patients since not interrupted with deliveries etc.
8. I find the psychological switch from accumulating to spending stressful.
9. My husband works 6 days. Week and to continue doing so until he is not physically able so I might as well work.
10. Working is good mental stimulation
Your idea about continuing to work but no longer contributing to retirement is sort of what I am doing. You avoid some sequence of return issues and erase any zero years you may have for ss calculations
Beautiful comments. Different from the overwork yourself to rush to retirement mentality. I always appreciate your perspective.
Thanks. I enjoy your comments as well
The #7 reason would be estate taxes!
I know Dr. D is a believer that the estate tax exemption will forever exceed the value of most doctors’ estates, but very little is permanent in the tax code.
Even with the current exemption amounts, I have M.D. clients with estate tax problems, typically those who own and have grown their own practices or have steadily made real estate or other investments outside of medicine over their careers. It’s not the worst problem to have, but when a client realizes that the feds are going to grab 40% of his estate, and 80% of anything passing to a grandchild, it can be upsetting to say the least.
While I have no guarantee the estate tax exemption will remain as it is ($10.6M+ married and growing every year with inflation), I think the best estimate of the future exemption is the current exemption.
I think it is a scare to tactic to tell a client “the feds are going to grab 40% of your estate and 80% of anything going to a grandchild.” If the client has $12M for instance, he’s only going to pay 40% on the last $1.4M, or about a half million on $12M. That’s less than 5%, not 40%.
But you should know pretty early on if you’re going to have an estate tax problem (barring changes in the law.) And if you’re in that select group of docs, you can do more intensive estate planning. If I end up there, I’ll probably just give more away. I don’t see any reason why all of my heirs combined should get more than $10.6M.
Do these charts account for dividends? If not, would that change what order you sell in?
Yes, they do.
Another great article. One thing that struck me from the Trinity study was that the 75/25% portfolio had a higher percentage of success than the 100% portfolio for withdrawal rates less that 5%.
However the Cooley study showed that the people with 100% portfolio ended (as expected) with more money on average than the 75/25% portfolio for the same withdrawal rates (less than 5%).
Could someone explain the discrepancy.
Thanks
A 100% portfolio is going to subject you to a lot, all frankly, of market risk so is going to be subject to huge draw downs at some point, maybe for a few years and there were time periods where the draw down and withdrawal took those to the cleaners. It all depends on when you start as well, be poor timing to have retired in 2006 for instance on a 100% stock portfolio. Bonds are there to lessen the volatility.
If you are hoping for an all stock portfolio or like that idea itd be wise to accumulate/not spend enough to where you can withstand 60% drops in value without it really coming close to affecting your lifestyle.
Probably due to lower volatility in the really bad years.
A sensible approach to maximizing your spending while minimizing your risk of depletion: The Ratcheting 4% Rule
https://www.kitces.com/blog/the-ratcheting-safe-withdrawal-rate-a-more-dominant-version-of-the-4-rule/
My plan is similar to what you allude to in the final paragraph. Cover fixed costs (which should be low) with SS and variable costs with savings. The problem of course is that if we retire in a few years (our early 40s), we won’t receive SS benefits for perhaps 30 years.
I plan our retirement with three “buckets” of money, with a target of ~$5M in total. I used to consider it a single big pot, but many years ago my wife asked to start seeing our monthly NW statement more in a format of “How could we retire *today* if we wanted”. I’ve got different SWRs for each, with the major caveat that obviously at the end of the day money is fungible and the real goal is to have enough money that we can be flexible. Also, the reality is with our comfortable but not lavish lifestyle, this is far more than we need, and really the buckets below are more a mental exercise in how to think about accessing this money. In reality we could have retired with half this much many years ago, so now I just massage our plans to accommodate the savings we’ve accrued.
Short-term: Accessible (nearly) immediately without penalty. This is largely cash and investments in after-tax accounts. This is intended to cover base expenses for a long time. I target $1M in this bucket, and I feel comfortable with an aggressive withdrawal rate (e.g. 6% – 7%) because it is back-stopped by funds in the other two buckets, and it’s fine if it’s fully depleted after 30 years (in fact that’s the intention…). This is also our “f-off” money. If we somehow both get to hating our jobs, this bucket gives us the freedom to just leave, without worrying about covering the next /n/ years of expenses.
Mid-term: Accessible over a longer period, but still well before traditional retirement age. For example deferred compensation with a 10-year payout after we retire, or other funds that aren’t part of a 401k plan, but also not immediately available. This provides us with income to cover our variable expenses before our retirement savings kick in. Vacations, cars, whatever else. I target $2M for this bucket, with a slightly more conservative withdrawal rate (e.g. 6%). These funds are intended to let us enjoy life while we’re young and active.
Long-term: Traditional “retirement” savings (plus, of course savings in our HSAs). I target $2M here before we “retire”, which of course should grow to a very large number ($10M, perhaps) in the 30 years before we’ll actually start to tap it. Once we hit retirement age this, along with SS and whatever is left from the two buckets above should let us spend whatever we want without worrying about SWRs. I tentatively plan to develop a wicked “hookers and blow” addiction in my 80s in a desperate attempt to plow through this.
+1 “f-off” money
+1 “hookers and blow” addiction.
Of course, our money won’t go as far as we think it will as minimum wage approaches $100/hour. “hookers and blow” might turn into “taco bell and pabst.”
I don’t care how many buckets you split it into, if you don’t feel financially independent on $5M, you’ve got a spending problem.
It’s only a problem if getting to something much higher than 5 million is difficult. So for many it probably is. For some, it is not.
It’s not that we don’t feel financially independent, but if you’re going to be working and saving, it’s best to have a strategy for /how/ you’re saving.. This is our strategy. There are many like it, but this one is ours.
Honestly the ‘$5M’ figure is somewhat arbitrary. When we were young pups right out of college, I decided that $100K/year would be a fine amount of money to retire on. Back then I figured $2.5M would provide us with that. Every year I bump it up by 4%, not because inflation is actually 4% (I know it’s not..), but because I had to pick a number, and I picked 4%. Here we are 17 years later, and that $2.5M target is now $5M.
That said, we’re basically there, and don’t plan to quit our jobs (well, at least my wife doesn’t… Sometimes I fantasize about it). So you could argue that we have a spending problem, in that we don’t spend enough, I guess.
Lol.
Don’t forget the well known Ty Bernicke article in 2005.
http://www.i-orp.com/help/RealityRetirementPlanning.pdf
The Bernicke Model is an interesting option in FIRECalc calculations. Basic idea is that virtually everyone typically spends less in their later years. It is rarely a fixed percentage year after year as we age, particularly through their seventies and eighties. Haven’t most of us seen this with our parents and grandparents? Less expenses and less travel. Acquiring less stuff. Rarely buying new clothes.
Foe most, the percentage of retirement savings assets withdrawn (actually spent) decreases with typical retirement age, often substantially. Social Security income helps out. WCI is right- savers and planners are going to have a hard time changing life time habits and will likely maintain the same thrifty life styles they always did. Will you really be different if you don’t retire extremely early?
This does not account for emergencies. Children’s weddings, house purchases, higher education spending, medical spending, etc. These tables are pretty much useless because NOT ONE person is going to have an ‘average’ retirement. These are averages in a world that is governed by outliers, and your retirement might have enough outliers to significantly deviate from the simple withdrawal rules. In that case, these tables are useless because if your withdrawals are random (sometimes very high, and sometimes just average) this will throw a monkey wrench into any plan. So you’ll have to plan for much higher withdrawals at random times, and for this we’d need another set of tables.
I don’t think #4 is a correct understanding of probability. If political catastrophe and retirement failure are independent events (there may be some correlation but it’s certainly not r=1) then a 20% chance of political catastrophe and a 20% chance of outspending your SWR leads to a 36% chance of a bad outcome. A 20% chance of a political catastrophe and a 0% chance of outspending your SWR is a 20% chance of a bad outcome.
Agree re. the larger point though. If you retire with a modest portfolio there is a very real possibility you die with a more than modest estate. If you care about tax efficiency or legacy you should plan ahead. The last thing you want is a bunch of relatives squabbling over inheritance because you left no guidance for its allocation.
Nope, you’re missing it. In your situation, either of those things are bad outcomes, so you add the probabilities. In my example, BOTH of those things have to happen to have a bad outcome, so you multiply them.
I would like to emphasize “sequence of return” risk which annual averages hide. Also, current stock valuations effect future returns. I recommend two additional article by Kitces, ( https://www.kitces.com/blog/valuation-based-tactical-asset-allocation-in-retirement-and-the-impact-of-market-valuation-on-declining-and-rising-equity-glidepaths/#more-4867 ) and ( https://www.kitces.com/blog/understanding-sequence-of-return-risk-safe-withdrawal-rates-bear-market-crashes-and-bad-decades/#more-4792 ).
Nice post. I am flabbergasted by some of the people on bogleheads who are preaching for 2.5 or even 2% SWR. Those guys are nuts.
Totally agree, long way from retirement but I can’t help but get sucked into the SWD threads on Bogleheads and feel sorry for the sad sacks who are nervous about 3%. I think everyone forgets that 80+ year olds just don’t spend that much. Sad that you saved your whole life and can’t relax and enjoy the fruits of your labor! Refreshing take WCI, good post.
Great post period. I just wish you would cut out the joys of womanhood slant. Ba dum cha!
Thanks for the feedback.
Very recent contrarian paper by Pfau: “Why 4% Could Fail”
http://www.fa-mag.com/news/why-4–could-fail-22881.html?issue=251
MC, Great Pfau article. I think everyone should read it. I am one of those that has worried that the 4% withdrawal rate is not as safe as everyone thinks that it is.
All interesting comments on safe withdrawal rate. Likely kernels of truth in all sides of the argument and numbers to reinforce a particular view.
BUT, the wild card in all of this is how long you will live. The one variable not mentioned. None of us know.
Wade Pfau’s most recent research indicates a much lower withdrawal rate.
Whitepaper can be downloaded here:
Rethinking Retirement
Sustainable Withdrawal Rates for New Retirees in 2015
http://www.fa-mag.com/rethinking-retirement-wealthvest-0815
Yes, at the rate Mr. Pfau is going, he’ll be recommending a withdrawal rate of 1% by 2020.
Think of it this way. With no inflation, you can stick your nest egg in a jar and use a 3.33% withdrawal rate and make it 30 years with 100% certainty. So when you’re getting down below that, you’re saying you expect a negative real return on your investments over three decades. If you expect a negative real return on your investments over 30 years, you’ve got bigger problems than picking a withdrawal rate.
Start in the 4% neighborhood and adjust as you go. That’s the best advice anyone can give you. If you’re particularly worried about longevity risk, are taking very little market risk, or barely have enough to get by, buy SPIAs for at least some of your retirement income. If you see your first 5 or 10 years of retirement go swimmingly, adjust up. If you hit 2008 in year two of your retirement, tighten your belt.
Good observation about sticking money in a jar, LOL. Do you know of any studies that take into account the sequence of returns risk where you sustain losses in the early years of withdrawal?
That’s where all these numbers come from- the sequences where you get early losses. That’s why it’s 4% and not 8%. All the studies look at that issue, that’s the point.
A CFP from Rick Ferri’s firm ran a Monte Carlo analysis using a 40/50 and 50/50 asset allocation with initial draw rate at 3%, 3.5% and 4% and an inflation rate of 2%. Draw down began at age 58. The analysis showed best results at a 50/50 allocation. At a draw of 3%, the portfolio will last until age 95 with a probabilty of 80%. At a 3.5% draw it is 57% and at 4% it drops to 42%. Perhaps Pfau’s results have more validity in light of these results.
The main issue with analyses like that is they are garbage in/garbage out and super dependent on your assumptions.
Keep in mind that the SWR is a starting point and that you adjust the amount for inflation every year. So the 3.33% would only work if there was 0% inflation for the 30-year period.
But your overall point is very valid and I snorted out loud when I read that Wade Pfau will be recommending a 1% rate by 2020…
You are correct. The inflation piece is huge in all of this.
Thank you for this. This post is quite timely as I have recently begun to shift my retirement target to ‘as early as possible’. I am 48 and would like to start part time work in the next 5 years or so. I was recently very spooked by Wade Pfau’s article as well, but the information here makes loads of sense. The jar analogy is particularly persuasive. Thanks.
Fascinating post. This suggests that you should be able to look up the withdrawal rate that produces a $0 median end-of-period amount at the median life expectancy minus 65 years, divide your annual Social Security benefit by that rate, and thereby calculate what your retirement account balance would need to be to supply your SS benefit. I wonder how that amount would compare to the equivalent amount one would have if they put the annual SS contribution into a retirement account rather than giving it to the government?
“If your goal is to enjoy your money and use it to increase your happiness (and that of others) in life…” That is not my goal. I want to live a decent retirement, but absolutely not spend more than needed to do that. I don’t want to travel, I don’t want to eat at fancy restaurants, buy expensive clothing or cars, collect expensive items of any kind, or do any of the other things I see my colleagues spending money on. I want a comfortable home, roof over my head, relative safety and health care when I need it. The money I don’t spend on increasing my happiness I want to give to my heirs.
I want to be a net saver throughout retirement.
The last thing I am seeking is a route to higher spending in retirement. Two percent is probably enough. Three percent is plenty. If that makes it likely that my kids will inherit more money (in real terms) than I had when I retired, great, just what I intended.
By the way, $5M is nowhere close to financially independent. I will never get to that happy state, but it would take ~ $100M.
Wow! You need $100M to be financially independent and that’s without any expensive tastes? You have an interesting definition of financial independence. I generally use a definition where I no longer need to work for money.