Challenging the 4% Rule

[Gilgongo]

Too much wine last night, I'm double counting inflation

I'm just a lad so I don't do maths, but this calculator says that £20K index-linked withdrawal from £1M for 20 years at 2% interest and 5% inflation would leave you with £696,159.04 left over.

https://www.thecalculatorsite.com/compo ... =&c=3&di=5

[vand]

I have no idea where Money to the Masses came up with 2%. There are usually a pretty good read but using a 2% SWR is way too conservative unless you also have the goal of preserving your capital base, but that is not usually a requirement of drawdown simulations.

The thing is really this: no SWR is really guaranteed, because the future can always be worse than what we imagine is the worst based on our experience of the past. However investing is always about how you balance risk AND reward. If you are too conservative (and arguably 4% is already very conservative) then you will likely die with a much larger fortune than when you retired.

Bill Bengen himself recently said that 4.5% is probably a more sensible number to shoot for today given the extra data that has become available since his work.

I mean, it’s good to build in a certain amount of conservatism when planning retirement, just remember you can’t take it with you.

[scrumpyjack]

Quite so, and health is far more important than wealth so perhaps focus on how you and your other half can stay as healthy as possible in retirement.

[Midsmartin]

2% mentioned above is roughly the payout on an index linked annuity, depending on age etc.

[DrFfybes]

Too much wine last night, I'm double counting inflation

Can't have been that much wine if you're posting before 7am, unless you up for a wee and going back to bed

FWIW my calc at at 5% inflation and 2% returns (both of which I think are highly unlikely long term) shows £1M lasts 34 years. Drop inflation to 4% and you gain 4 years. Increase returns to 2.5% and you gain another 5.

FWIW I'm about to test this real world in the summer. I'm setting up an account with 90% VEVE and 10% VFEM. When MrsF finishes work in summer we'll be cashing in each month (or so) to release 5%pa of initial investment inflation linked. The selldown will not be strictly accurate, as I'll only sell VFEM once a year to rebalance, but that is the intention.

If we're around in 20 years [1] I'll let you know how it went.

Paul
[1] Actually, just realised is was over 20 years ago I found TMF - how time flies.

[1nvest]

Too much wine last night, I'm double counting inflation

I'm just a lad so I don't do maths, but this calculator says that £20K index-linked withdrawal from £1M for 20 years at 2% interest and 5% inflation would leave you with £696,159.04 left over.

https://www.thecalculatorsite.com/compo ... =&c=3&di=5

That's a nominal £696K value. Adjust that value for inflation of 5%/year and its more like a £262K amount in real (inflation adjusted) terms after 20 years left over.

A critical factor is the first 10 to 15 years. A bad sequence of returns in earlier years can devastate SWR. Kitches suggests something like you need to hit 2%/year real for the first 15 years to have a good probability of 4% 30 year SWR success. Falling short of that is a loud shout that you need to revise your spending downwards. More often however that isn't a issue.

[AsleepInYorkshire]

That's a nominal £696K value. Adjust that value for inflation of 5%/year and its more like a £262K amount in real (inflation adjusted) terms after 20 years left over.

A critical factor is the first 10 to 15 years. A bad sequence of returns in earlier years can devastate SWR. Kitches suggests something like you need to hit 2%/year real for the first 15 years to have a good probability of 4% 30 year SWR success. Falling short of that is a loud shout that you need to revise your spending downwards. More often however that isn't a issue.

A broader view would be to look at all the parameters impacting upon the performance of the stocks and shares invested in. If inflation rises to 5% and stays there for a significant period of time some companies will be able to pass that on to their customers. And that will allow them to continue to produce acceptable margins.

AiY

[vand]

2% mentioned above is roughly the payout on an index linked annuity, depending on age etc.

Right.. which, underneath the hood, is really just a non-depleting portfolio with an additional margin for the annuity provider to pay for the cost of running their business, plus a bit more for them to make a profit and assume the portfolio risk.

After all, annuity providers have no more access to any markets or asset classes that a private investor today also has.

So, 2% is definitely way, way, way too conservative if you are self managing.

[Lootman]

2% mentioned above is roughly the payout on an index linked annuity, depending on age etc.

Right.. which, underneath the hood, is really just a non-depleting portfolio with an additional margin for the annuity provider to pay for the cost of running their business, plus a bit more for them to make a profit and assume the portfolio risk.

After all, annuity providers have no more access to any markets or asset classes that a private investor today also has.

So, 2% is definitely way, way, way too conservative if you are self managing.

Agree that a 2% SWR is too conservative. But of course you can really only remedy that by spending more conspicuously and extravagantly, since nobody is going to consciously invest for a lower return than they can.

The real problem is more that some people carry on working just so they can live off no more than 2% a year because they exaggerate the risk of running out of funds. In many cases they will die on the job. And then the government takes 40% anyway.

That said I suspect that a lot of people here do have a SWR of 2% or less, simply because they have a net worth of (say) 3 million or more - which many Lemons likely do. And can live comfortable on 60K a year.

In any event annuities are the devil's work.

[dealtn]

2% mentioned above is roughly the payout on an index linked annuity, depending on age etc.

Right.. which, underneath the hood, is really just a non-depleting portfolio with an additional margin for the annuity provider to pay for the cost of running their business, plus a bit more for them to make a profit and assume the portfolio risk.

After all, annuity providers have no more access to any markets or asset classes that a private investor today also has.

So, 2% is definitely way, way, way too conservative if you are self managing.

Annuity providers also have the capability of pooling risk over many individuals, including mortality/longevity risk. Individuals are (much) more limited here. (Although I don't disagree on 2% being too conservative.)

[scrumpyjack]

One point that Chris Dillow made a while ago in the Investors Chronicle is that it is very difficult for someone who has spent their life saving and building up their assets to change their mindset to one of running down their assets. It is all very well working out how long one’s capital would last at what withdrawal rate but most people would get pretty unsettled seeing it all disappearing down the plughole and wondering each year how long it is going to last. So yes there is no point being the richest corpse in the graveyard but neither is a good idea to spend your retirement worrying whether the money was going to last. It is not simply a mathematical equation of inflation, returns and withdrawal rates, it is also an emotional issue.

[DiamondEcho]

Quite agree Scrumpy, as 'the end' nears - er, hopefully just effective retirement, and contemplating re-opening in the UK and the opportunity to finally enjoy our decades long built HYP - it is a pretty uncomfortable feeling. You could say I've been an accumulator all my life, it's in my nature, this is how I got here with HYP/FIRE. Now, being clinically rational (cough), a calculation I could do but am averse to researching could tell me how much of our capital it would be 'safe' and wisest for me/us to spend every year. Ie so we enjoy it to the max rather than end up it being left to others.

There is a contradiction. The conservatism to HYP/FIRE comes from and with innate caution. Personally accepting you have crossed the save-> enjoy 'finish line' feels like a risky leap into the dark. I suppose we as a society have had about 30 years of home internet and the popularity of serious DIY investment. What seems relatively lacking are user-friendly and trustworthy guides to asses and model what the wind-down of those assets might look like.

[Steveam]

We talk and plan in generalities but live specifically.

Best wishes,

Steve

[vand]

I agree with everything in the last few posts.

There is a indeed strong emotional element that cannot be discounted when retirement planning, which is why people tend to build in plenty of buffer, despite what all the research says is "safe".

It's the same reason why most people are happy to have paid off their mortgage and own their home outright, even though they would probably have been richer not paying it down and investing their money instead.

And personally, my own feeling is that the best defence any retiree has against running out of money, or even feeling concerned about running out of money, is to be flexible in your spending, remain both mentally and physically healthy, and to be able to reenter the workforce to top our investments should we feel the need. Even just a little bit of extra income during years where you portfolio is struggling will almost certainly help immeasurably when the portfolio is analysed at the end. In the real world hardly anyone who FIREs at 40 or 50yo never earns another penny of income during their retirement. I appreciate these are not "portfolio" solutions but they are real world options that anyone with concerns should strongly consider.

[Hariseldon58]

Interesting that the SWR thoughts so often focus on “ Now I am (insert age) I will set a SWR of ( insert figure) and thats the end of it until I die…

The initial SWR is a starting rate and I can’t believe anyone who relies on a portfolio to fund their lifestyle, is not going to ask the question again in a few years.

“ Now I am (inset age) will set a SWR of ( insert figure) and thats the end of it until I die…knowing that the number of years to go has the been reduced by a shade under no of years since last review.

The very nature of the process is that the calculation becomes more accurate as time goes on.

I’m in year 15, I’ve experienced sequence of returns, the remaining lifespan is significantly shorter and I know what the balance of the portfolio is after 15 iterations of the calculation. The portfolio has doubled in size in real terms, the remaining period is shorter, a reasonable presumption is that the SWR is higher, however the required income in real terms required has not doubled , hence a lower SWR can be used, with an increased margin of safety and/or a a pay rise!

[MrFoolish]

Anyone here funding their retirement by at least partly selling down their share portfolios?

How do you prioritise what you sell - winners or losers first?

[Gilgongo]

Anyone here funding their retirement by at least partly selling down their share portfolios?

How do you prioritise what you sell - winners or losers first?

I think the "simple" (sort of) answer is that you sell down the winners to take advantage of the reverse of pound cost averaging. So look at past performance, and rank the assets in order of which have done best over the last, say, 6 months. It helps to have negatively-correlated assets for this, although these days both stocks and bonds (and even gold) seem to move together.

Given the psychological pain of this though, I'm not surprised people tend to use dividends as their main income source.

[Newroad]

Hi MrFoolish.

I'm not doing so yet, but I intend to do so by using

(1) Dividends first, then if needed
(2) Selling to re-balance to my then target weightings of each component, then if needed
(3) Selling each component in proportion to its target weighting

This would give a bias to selling recent winners.

Regards, Newroad

[Gilgongo]

Also - and at the risk of forking the discussion - I'm surprised that there aren't services emerging to allow you to compute what to sell from your portfolio based on your desired ruleset (4%, Gyton-Klinger, Variable CAPE, VPW, Hebeler Autopilot, etc.). I posted on these boards about this a while ago and nobody seemed to be interested in creating one. Guess we're all either into dividends, or just like making spreadsheets¯\_(ツ)_/¯

[Gilgongo]

This would give a bias to selling recent winners.

What are your target weightings based on?