Originally Posted by nico08
Am I looking at this the right way?
I am trying to figure out an estimated fluctuation range of return on my investment portfolio. Assume that I have a 80% stock and 20% bond allocation. I used the annual return from the US stock market from 1928 to 2011 and the annual return on US bonds from 1928 to 2011. So my equation would look like this: (Annual Stock Return for Year A)(80%) + (Annual Bond Return for Year A)(20%)= X%. I then reviewed the combined annual returns between 1928 and 2011. The worst year resulted in a -36% return and the best year resulted in a 43% return.
Assume I have $500,000 in my investment portfolio. Assume that I do not want to take more than 4% of my investment portfolio to use as living expenses. Assume that I plan to FIRE within one year. Does this mean that I would need to be prepared to live on any amount between $12,800 and $28,600 based on an 80 percent stock and 20 percent bond investment portfolio allocation? So if I retired on a day when the stock and bond market took a major turn for the better or for the worse, would my investment income vary by this amount, somewhere between $12,800 and 28,600?
Thank you for your insight.
If you're really looking at best and worse cases, I wouldn't limit it to what has happened in the last 83 years, because it could be even more extreme. Unlikely, but possible. Not that you should or even could plan for the absolute worst case, but don't limit your thinking to only what has happened before.
I'd be really, really surprised if such a swing happened on the day or week of your retirement, though again, it could. Much more likely is that you'll see a downturn coming over the year, in which case I would, and actually did, postpone retirement. For me when the dotcom bubble burst I was heavy in tech stocks and lost well over 36%.
In another case you might retire just as the market is starting to take a big hit. This is the toughest to recover from unless you either have a buffer or can return to employment, or have another way to make money.
One more thing about big swings, they have historically returned to normal levels. No guarantee this will happen in the future, but while I would get more tight with my spending if a big drop happened just before retirement, I probably wouldn't cut my spending all the way back. Likewise, if there was a big run-up just before ER, I wouldn't give myself a green light to spend a lot more, because stocks could easily fall back to the previous level.