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Old 06-26-2010, 08:43 AM   #41
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Old 06-26-2010, 08:43 AM   #42
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This has been discussed in other threads.

There are other papers that also point out misconceptions about the 4% WR approach as well as alternative approaches to a 60/40 mix for funding retirement income.

I thought Sharpes paper was thought provoking and made a good point. Don't follow a concept blindly, identify your real goals, look into your options for achieving those goals. If it can be done for less money and less risk... a rational person would/should choose that course of action.
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Old 06-26-2010, 08:45 AM   #43
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I observe that many posters have significant foreign equities in their AA. It's my way to hedge too.
The correlation between foreign equities and that of U.S. is getting higher, however. Adding other asset classes such as precious metals or commodities may help.
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Old 06-26-2010, 08:48 AM   #44
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Just a reminder of why some of us prefer Clyatt's approach of a 4.3% total portfolio per year, the amount variable as the porfolio fluctuates annually. Throw in a "5% less than last year's total" as a safety net or "floor" and you have a back-tested, sensible plan for those of us who can handle some fluctuation of income.

Not for everyone but it fits nicely for us.
Hey Doc... could you elaborate on the "5% less" part of the approach.
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Old 06-26-2010, 08:49 AM   #45
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Don't follow a concept blindly, identify your real goals, look into your options for achieving those goals. If it can be done for less money and less risk... a rational person would/should choose that course of action.
Agreed if we were rational.
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Old 06-26-2010, 08:53 AM   #46
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To the contrary, in the article you linked, Sharpe does indeed propose a solution. If the Treasury were to issue TIPS with the maturity payment stripped-off so that you could purchase the coupon stream at auction, you could very easily implement Sharpe's proposal. Sharpe is talking about what is basically a 2-bucket approach, where one bucket (the stripped TIPS coupon stream) would fund your 4% inflation adjusted withdrawal for 30 years. The present value of the stripped-off maturity payment (approximately 9% of your portfolio's current value) would be invested in risky assets (e.g. the S&P 500), and would be left untouched for 30 years. Presumably, over such a long time period the stock market would return close to it's long-term historical average of about 6.5% per year real; and at your horizon, would have grown to a large enough value so as to fund the rest of your retirement years. IMO, the beauty of this approach is that you would never have to cut back from your 4% spending rule out of fear that you would run out of money, only to end up with a large surplus on your dying day.
I'll agree that your strategy, if I understand it correctly, is an excellent alternative. (In fact, I'm very heavily weighted in TIPS for that stability.) But, I can't find it in the paper. Maybe it's the financial equivalent of Sharpe's "Least Cost Spending Strategy" on page 11, but I can't make the connection.

My complaint about Sharpe's approach is that he seems to treat 30 years as a perfectly fixed number. Any amount left at the end of 30 years becomes a "surplus", and a source of inefficiency to be squeezed out. But, if he eliminates the possibility of a surplus, then it seems to me he has 100% chance of running out of money if he lives 31 years.

Your approach is better. By my understanding, you say that pure TIPS would allow a 4.46% flat income. If you're willing to move (.46/4.46) of your total portfolio into something with a higher risk/higher reward category, then wait 30 years for the short term volatility to partially cancel out, you'll have some funds for the possibility of a very long life.
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Old 06-26-2010, 09:41 AM   #47
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Hey Doc... could you elaborate on the "5% less" part of the approach.
You have $1mm on Jan 1, 2000. You take $43k in income, leaving $957k.

Bad year ensues, market down 15%, leaving you with $813k by year's end. According to the basic rule, you would end up taking 4.3% of that $813k for the upcoming year's income = $35k. That's a huge hit.

However the "floor rule" allows you to take no less than 95% of what you took the prior year. 95% of $43k = $40,850. You can that amount rather than $35k and still do well long-term at least as far as back-testing shows.

BTW, following a really good market year, you may wish to withdraw less than the allotted 4.3% if you don't need it all, further enhancing the flexibility of this system - kind of a poor man's value cost averaging.

Hope that helps.
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Old 06-26-2010, 09:58 AM   #48
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(RE: great depression, etc)
Actually, I do not think that, although I certainly cannot rule it out. The US was a young capitalist country coming into its own with no huge baggage of entitlements, or government spending, and with no lower cost industrial competition.
For a period of time, we were the 'lower cost industrial competition'. So it isn't just that we lost an advantage, it's worse than that - the tables have been turned on us. It might not spell disaster, but I don't think it bodes well for us maintaining our standard of living. But as others have said, if it means a relatively modest decline in our standards, we can still be very happy indeed.

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My complaint about Sharpe's approach is that he seems to treat 30 years as a perfectly fixed number. Any amount left at the end of 30 years becomes a "surplus", and a source of inefficiency to be squeezed out. But, if he eliminates the possibility of a surplus, then it seems to me he has 100% chance of running out of money if he lives 31 years.
That was my take on it also. To me, it makes his whole example a mere academic discussion - it becomes one data point from which you formulate a plan. And in that regard, that is all the '4% rule' is anyhow. So without investing too many brain cells on this, and still working on my caffeine consumption for the morning, I'll hazard the guess that some blend of the two makes the most sense for most people. I feel like I'm stating the obvious.

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Old 06-26-2010, 10:10 AM   #49
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Rich,
Your post confused me a little. Are you applying the initial 4.3%, then applying a 4.3% to the remaining balance each succeeding year? If so, that is not how I thought how a 4% swr was applied. I thought you started with one million, applied the 4% or in your case 4.3% and arrived at $43,000. You then took $43,000, adjusted for inflation, out of your remaining balance, which in down years would be greater than 4.3% and less in good years.
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Old 06-26-2010, 10:31 AM   #50
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You have $1mm on Jan 1, 2000. You take $43k in income, leaving $957k.

Bad year ensues, market down 15%, leaving you with $813k by year's end. According to the basic rule, you would end up taking 4.3% of that $813k for the upcoming year's income = $35k. That's a huge hit.

However the "floor rule" allows you to take no less than 95% of what you took the prior year. 95% of $43k = $40,850. You can that amount rather than $35k and still do well long-term at least as far as back-testing shows.

BTW, following a really good market year, you may wish to withdraw less than the allotted 4.3% if you don't need it all, further enhancing the flexibility of this system - kind of a poor man's value cost averaging.

Hope that helps.
When I plug in the 4.3%/95% scenario in FIREcalc, I find an uncomfortably large number of cycles where the annual income would still have to be progressively cut from $43,000 down to roughly $20,000 at one point or another during a 30-year period. Does it sound right? By the way, I get somewhat similar results using my proposed 3%/90% scenario.

I don't know whether I am allowed to screen capture the FIREcalc results and post them here...
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Old 06-26-2010, 10:38 AM   #51
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...

However the "floor rule" allows you to take no less than 95% of what you took the prior year. 95% of $43k = $40,850. You can that amount rather than $35k and still do well long-term at least as far as back-testing shows.
When I look at a FIRECALC run with that '95% spending rule', I see an awful lot of squiggly lines that dip down around what looks to be about 1/2 your original spend rate, and they appear to hang there a looooong time. Even when I start with 4.0% (not the 4.3% you mention). It's hard to follow any one line though, maybe there are better outputs forms for this data?

OTOH, a 3.5% inflation adjusted spend rate provides 100% success.

Personal preference of course, but I'd much rather try to stick to 3.5% on average, than to face years and years (of maybe the best years of my retired life) at something much less. It might even turn out to be a 'false alarm' - just a bad period with a good period to follow and make up for it. Sure, I'd adjust if I see some long term trend, but it's doubtful that I would need to.

edit - I gues FIREdeamer and I were thinking alike!

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Old 06-26-2010, 11:06 AM   #52
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There are many things that we fund based on one side being fixed and the other variable... gas for one comes to mind... if the price of gas goes up a lot like it did a year or so ago... and my salary does not... I am funding a variable expense based on a fixed income...
That depends on what you mean by "fixed". If gas is a substantial part of your expenditure, you can go quite some way towards compensating for it by having a higher weight of oil company shares, or energy mutual funds, or crude oil futures, in your portfolio. Hedging is not just for big corporations.
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Old 06-26-2010, 11:42 AM   #53
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When I look at a FIRECALC run with that '95% spending rule', I see an awful lot of squiggly lines that dip down around what looks to be about 1/2 your original spend rate, and they appear to hang there a looooong time. Even when I start with 4.0% (not the 4.3% you mention). It's hard to follow any one line though, maybe there are better outputs forms for this data?

OTOH, a 3.5% inflation adjusted spend rate provides 100% success.

Personal preference of course, but I'd much rather try to stick to 3.5% on average, than to face years and years (of maybe the best years of my retired life) at something much less. It might even turn out to be a 'false alarm' - just a bad period with a good period to follow and make up for it. Sure, I'd adjust if I see some long term trend, but it's doubtful that I would need to.

edit - I gues FIREdeamer and I were thinking alike!

-ERD50
Did you run that as 4.3% with or without COLA? I think the Clyatt method is non-COLA'd.

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Old 06-26-2010, 12:43 PM   #54
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Did you run that as 4.3% with or without COLA? I think the Clyatt method is non-COLA'd.

DD
I don't know if the Clyatt method is non-COLA or not, but to to be honest I don't care. No way in heck am I going to plan for a 45 year retirement based on a non-cola 4.3%.

I remember Grampa telling me about nickel lunches with a beer!

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Old 06-26-2010, 12:50 PM   #55
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Old 06-26-2010, 12:50 PM   #56
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Did you run that as 4.3% with or without COLA? I think the Clyatt method is non-COLA'd.

DD
I ran the 4.3% with no COLA.
$1,000,000 portfolio and $43,000 annual income for the first year, WR is 4.3% of remaining portfolio thereafter with "95% rule", 30-year retirement. I used a 50/50 portfolio (50% total market and 50% 5-year treasuries). FIREcalc shows that even the worse cycle would still leave you about $500,000 (2010 $$$) to pass on to your heirs after 30 or even 50 years in retirement. That's great (for your heirs) but, under some scenarios, you would have had to cut your expenses to half the original spending rate (for years at a time) in order to make it happen.
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Old 06-26-2010, 01:16 PM   #57
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When I look at a FIRECALC run with that '95% spending rule', I see an awful lot of squiggly lines that dip down around what looks to be about 1/2 your original spend rate, and they appear to hang there a looooong time. Even when I start with 4.0% (not the 4.3% you mention). It's hard to follow any one line though, maybe there are better outputs forms for this data?

-ERD50
That is a definite downside of the 4%/95% rule and I think Bob Clyatt admitted it in one of his posts. Bob has advocated a flexible semi-ER lifestyle where you go out and earn some $s if things are really bad. (otoh, when things are really bad, its hard to get a job!)

I'd like to add two points to the 4%/95% rule that have not yet been called out in this thread :
1. The 4% to 4.3% withdrawal includes all investment expenses too. ie. Management fees.

2. The strategy leaves the purchasing power of your initial portfolio intact after 40 years some 95% of the time.
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Old 06-26-2010, 01:31 PM   #58
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When I plug in the 4.3%/95% scenario in FIREcalc, I find an uncomfortably large number of cycles where the annual income would still have to be progressively cut from $43,000 down to roughly $20,000 at one point or another during a 30-year period. Does it sound right? By the way, I get somewhat similar results using my proposed 3%/90% scenario.

I don't know whether I am allowed to screen capture the FIREcalc results and post them here...
I never quite understood what's going on in FC under the hood in the Clyatt scenarios and haven't found it that useful.

But whatever results you get remember that the model seems to ignore value averaging during up years, which alone might mitigate what appears to be a lot of volatility otherwise. You can be sure that if we hit a great year here and there, I will either take a lower percent that year, or skim some off for future smoothing.
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Old 06-26-2010, 01:33 PM   #59
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That is a definite downside of the 4%/95% rule and I think Bob Clyatt admitted it in one of his posts. Bob has advocated a flexible semi-ER lifestyle where you go out and earn some $s if things are really bad. (otoh, when things are really bad, its hard to get a job!)

I'd like to add two points to the 4%/95% rule that have not yet been called out in this thread :
1. The 4% to 4.3% withdrawal includes all investment expenses too. ie. Management fees.

2. The strategy leaves the purchasing power of your initial portfolio intact after 40 years some 95% of the time.
How can this be true if some years you are down to spending half of what you started at? I think it must be hard to accept that there can be no magic. Either your portfolio earns your living, you earn your living (this is called non-retirement), or your liiving standard goes down, or you eventually go broke. Economics is harsh!

We have a tendency to grab onto whatever guru comes out with a new magic formula. It interest me that the group almost always immediately reject magic investing formulas, but hooks right onto magic withdrawal formulas. It's like sports gambling. Money management is surely important, but not near so important as figuring out a way to predict winners.

Ha
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Old 06-26-2010, 02:13 PM   #60
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I never quite understood what's going on in FC under the hood in the Clyatt scenarios and haven't found it that useful.

But whatever results you get remember that the model seems to ignore value averaging during up years, which alone might mitigate what appears to be a lot of volatility otherwise. You can be sure that if we hit a great year here and there, I will either take a lower percent that year, or skim some off for future smoothing.
That's true. In good years, I plan on skimming some off for future smoothing (FIRECalc probably assumes we spend your entire withdrawal each year). If we get a few good years after retiring, then 4.3% of portfolio value will give us plenty to skim off. That could help ensure that we don't have to cut back too drastically in later years. However, if we hit a rough patch right after retiring and we have to start cutting expenses right away, then I don't see how we could avoid some of the large income cuts predicted by FIREcalc (unless we have ample cash reserves outside of our retirement portfolio to help smooth our income during such early storm).

Perhaps, FIREcalc should have an upper and lower expense cap for the Clyatt scenario: In bad years, take the greater of 4.3% of portfolio or 95% of the previous year's spending and in good years, take the lesser of 4.3% of portfolio or your original spending rate (adjusted for inflation).
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