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Determining Real Net Worth in Firecalc
Old 02-28-2014, 10:09 AM   #1
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Determining Real Net Worth in Firecalc

When using a net worth/portfolio amount in Firecalc or other retirement calculators I use a method for valuation to account for market flucuations. I'd appreciate feedback from the group on its usefulness and validity.

At any point in time my actual net worth value may be too high or low because the market is valued too high or too low. In other words, if the market is at an alltime high then my net worth is probably overvalued. Conversely, if the market is well under the alltime high then my net worth is probably undervalued.

I use the S & P 500 as my index and 90% as my real percent value. So if the S&P 500 index is at an alltime high I multiply my net worth by .9 to calculate my real value to input into Firecalc. Conversely, if the S&P index is 20% lower than the alltime high then I multiply my net worth by 1.125 (the multiplier needed to get to 90%) to determine the real value of my net worth.

Scenarios - If my net worth is 1000 and:

- the S&P 500 index at alltime high then my actual net worth is multiplied by .9 so my real net worth equals 900

- the S&P 500 index is at 90% of the alltime high then my real net worth equals my actual net worth at 1000

- the S&P 500 index is only 80% of the alltime high then my actual net worth is multiplied by 1.125 so my real net worth equals 1125

my goal is to use a useful number for valuing net worth. Does this make sense? Is 90% the right percentage? Is the S&P 500 the right index?
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Old 02-28-2014, 10:29 AM   #2
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I just use current value, whether market is all time high or low. I don't see the point of what you are doing given the time scale of what/how one uses FireCalc for.
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Old 02-28-2014, 11:14 AM   #3
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I'd appreciate feedback from the group on its usefulness and validity.
I see it as an exercise for entertainment value only.

Your net worth is what it is today and it will almost certainly change tomorrow. Trying to adjust due to market over/undervaluation does nothing more than add an unknown variable into the FIRECalc run, which increases the opportunity for error.
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Old 02-28-2014, 11:24 AM   #4
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I thought Firecalc accounted for those market fluctuations as part of the algorithm.
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Old 02-28-2014, 11:27 AM   #5
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I see it as an exercise for entertainment value only.

Your net worth is what it is today and it will almost certainly change tomorrow. Trying to adjust due to market over/undervaluation does nothing more than add an unknown variable into the FIRECalc run, which increases the opportunity for error.
Right, you are just adding another layer of 'margin' in there. FIRECalc failures generally (always?) occur when one retires at a market peak. So that is really taken into account (historically).

Many of us add some margin into our plans, to account for the fact that future worst case may be worse than historical worst case. Just be aware of that if you are using multiple safety factors.

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Old 02-28-2014, 11:42 AM   #6
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The S&P index itself isn't a good metric as there are supposed to be new highs as the years roll by, but valuations like PE or PE10 have been studied. You can Google and find lots of studies have been done along those lines (Shiller, Kitces, Pfau, etc. - see chart below for example) and it may be worth consideration IF valuations are completely out of line with past history like they were leading into the 2000 dot.com bubble, much higher than now.

But like the others have said, FIRECALC uses history from 1871-present which includes several depressions, about two dozen recessions, two World Wars and every manner of geopolitical and financial aberrations, good and bad. If you want to build in an additional safety factor to help you sleep at night in retirement (lots of us do so in various ways), there's nothing wrong with that as long as you recognize you may be double adding WRT safety in terms of valuations.

Remember the 4% SWR for 30 years represents a 95% chance of success. That's a 1 on 20 chance of failure (and you'd adjust long before you reached actual failure) and 19 in 20 chance you could withdraw more than 4%, possible much more.
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Old 02-28-2014, 12:19 PM   #7
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What I find to be a useful exercise is to analyze how my portfolio would look if the equities market crashed by 50%. What would my new SWR be, and would I still be comfortable retiring (or staying retired if you already are so).

If the answer is yes, then you have more than enough cushion to be very comfortable with the decision to ER.
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Old 02-28-2014, 01:22 PM   #8
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Thanks for the replies - All excellent points. You are correct that Firecalc takes it all into consideration.

So instead let's use it as the net worth when calculating a SWR using a rate (4%?) as a better way to use my methodology.

In 2009 it felt like the S&P 500 index was probably lower than it should be and it would eventually revert to a higher value. Conversely, in 2000 things seemed a little overpriced when P/E ratios were very high. Now let's say two people retire with the same actual net worth in 2000 and 2009. Using the same net worth and SWR they would have calculated the same SWR. However, the person who retired in 2000 now (knowing what we know years later) has less chance for long-term retirement success than the person who retired in 2009. My net worth adjustment would have adjusted the starting numbers for both years making the result more reflective of the market environment at the time.

As Jack Bogle points out, there is a regression to the mean and I want to base analysis from the best starting number possible. So the purpose of my net worth revision is to account for market under/over values.

More information - my portfolio is 60% equity and that equity is very closely coorelated to the S&P 500 index. That is why I have used it as my base.
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Old 02-28-2014, 01:39 PM   #9
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IMHO, a bigger threat to the certainty of FireCalc is not fluctuation in net worth, but what may happen to SS in the future. And, what may happen to pensions.

I have run FireCalc using a 20% reduction in SS amounts starting in 2030, AND, a 20 percent pension cut immediately with no COLA. That was a bit sobering, but it also was reassuring in that my personal assets allow me to survive, though my spending on wine, women and song would not leave much left over to waste.
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Old 02-28-2014, 02:36 PM   #10
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IMHO, a bigger threat to the certainty of FireCalc is not fluctuation in net worth, but what may happen to SS in the future. And, what may happen to pensions.

I have run FireCalc using a 20% reduction in SS amounts starting in 2030, AND, a 20 percent pension cut immediately with no COLA. That was a bit sobering, but it also was reassuring in that my personal assets allow me to survive, though my spending on wine, women and song would not leave much left over to waste.
I did the same thing, only used a 30% SS haircut estimate based on latest SS trustee's report. Been told that's a very conservative scenario. Still, I do like the having that margin. No haircut = more lap dances.
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Old 02-28-2014, 02:54 PM   #11
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Thanks for the replies - All excellent points. You are correct that Firecalc takes it all into consideration.

So instead let's use it as the net worth when calculating a SWR using a rate (4%?) as a better way to use my methodology.

In 2009 it felt like the S&P 500 index was probably lower than it should be and it would eventually revert to a higher value. Conversely, in 2000 things seemed a little overpriced when P/E ratios were very high. Now let's say two people retire with the same actual net worth in 2000 and 2009. Using the same net worth and SWR they would have calculated the same SWR. However, the person who retired in 2000 now (knowing what we know years later) has less chance for long-term retirement success than the person who retired in 2009. My net worth adjustment would have adjusted the starting numbers for both years making the result more reflective of the market environment at the time.

As Jack Bogle points out, there is a regression to the mean and I want to base analysis from the best starting number possible. So the purpose of my net worth revision is to account for market under/over values.

More information - my portfolio is 60% equity and that equity is very closely coorelated to the S&P 500 index. That is why I have used it as my base.
With all due respect, I'm not sure if you're asking or telling us.

Again using the S&P 500 index itself makes little sense as a basis to adjust your net worth. Using some form of market valuation like PE or PE10 might make more sense in extreme valuation cases (outside the historical norms) if the academic studies are any indication, in which case use the chart above in post #6 or something like it. But all these tools are 'axes, not scalpels' - no matter what you do, the numbers will be off considerably in all probability.

You're proposing adjusting your net worth, but the 4% SWR is based on all market history without adjusting net worth. IOW, if you're going to adjust net worth, 4% is no longer applicable.

FWIW...
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Old 02-28-2014, 03:05 PM   #12
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Not telling just asking! I just want input for assessment of my retirement prospects.

I understand that it may make more sense to use PE vs S&P index. However, isn't the market is influenced by more than just earnings (politics, world events, etc)? In that case wouldn't the S&P index be more more reflective of all things that effect the market?

Again, I appreciate the feedback!
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Old 02-28-2014, 03:22 PM   #13
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Originally Posted by Global1 View Post
Not telling just asking! I just want input for assessment of my retirement prospects.

I understand that it may make more sense to use PE vs S&P index. However, isn't the market is influenced by more than just earnings (politics, world events, etc)? In that case wouldn't the S&P index be more more reflective of all things that effect the market?

Again, I appreciate the feedback!
As you know, price and earnings don't move in tandem. A change in either will change P/E, and "politics, world events, etc." and many other variables will almost certainly alter price.
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Old 02-28-2014, 03:31 PM   #14
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Of course you are correct - price is also reflective of all things effecting the market. I sometimes don't fully understand which PE is the best one to use since the earnings used are different depending on how they are reported. Is PE10 the best?

Quick question though - "adjusting net worth makes 4% is no longer applicable." Why is this the case? Wouldn't a more "real" net worth make the results even more "accurate" as I outlined in my example about retiring in 2000 vs 2009?

Thank for the input!
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Old 02-28-2014, 03:39 PM   #15
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BTW, you use the term net worth but I think 'portfolio' or 'investable assets' is a more appropriate number to use when running FIRECalc. I don't plan to sell the house and spent the proceeds for living expenses - that is, not unless things get far worse than I anticipate.
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Old 02-28-2014, 03:52 PM   #16
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When using a net worth/portfolio amount in Firecalc or other retirement calculators I use a method for valuation to account for market flucuations. I'd appreciate feedback from the group on its usefulness and validity.

At any point in time my actual net worth value may be too high or low because the market is valued too high or too low. In other words, if the market is at an alltime high then my net worth is probably overvalued. Conversely, if the market is well under the alltime high then my net worth is probably undervalued.

I use the S & P 500 as my index and 90% as my real percent value. So if the S&P 500 index is at an alltime high I multiply my net worth by .9 to calculate my real value to input into Firecalc. Conversely, if the S&P index is 20% lower than the alltime high then I multiply my net worth by 1.125 (the multiplier needed to get to 90%) to determine the real value of my net worth.

Scenarios - If my net worth is 1000 and:

- the S&P 500 index at alltime high then my actual net worth is multiplied by .9 so my real net worth equals 900

- the S&P 500 index is at 90% of the alltime high then my real net worth equals my actual net worth at 1000

- the S&P 500 index is only 80% of the alltime high then my actual net worth is multiplied by 1.125 so my real net worth equals 1125

my goal is to use a useful number for valuing net worth. Does this make sense? Is 90% the right percentage? Is the S&P 500 the right index?
Just to make sure, you should be using your total investable retirement assets as your FIRECalc amount. That's not net worth, which might include cars, furniture, primary residence, and vacation home. Even rental properties that you own should probably be handled outside of FIRECalc, since they are not stocks or bonds. You might consider adding in a portion of your home equity if you are planning to downsize your house and spending the difference.

FIRECalc works using yearly stock index and bond index gains. So it doesn't hit market peaks and dips precisely, but does come close. Given that the dips almost by definition happen right after a peak, I'm happy enough to use seemingly high valuations as FIRECalc inputs. It will have some scenarios that immediately crash the market.

On the other hand, I'm reluctant to use recession valuations as FIRECalc inputs. It will do the same thing it always does, use some scenarios (historical starting years) that immediately crash the market. And those are some of the key FIRECalc portfolio failure cases. So is it reasonable to enter data from 2009 and follow that with the Great Depression? That's being very pessimistic. The idea of increasing the input by some correction factor might be reasonable for these cases, but you'd have to do your own study.
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Old 02-28-2014, 04:00 PM   #17
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We should also discount our asset base due to the fact that firecalc ignores the possibility of space aliens landing on earth. It also does not model my allocation to Venezuelan Beaver Cheese futures (a commodity I am very glad not to have to take physical delivery on) well.
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Old 02-28-2014, 04:20 PM   #18
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I am joking n the preceding post, of course. Firecalc really was designed to do something straight forward. You can decide whether or not you are comfy with what it does and the applicability of that to your personal future, but the model is what it is. When you start overlaying haircuts on things, you throw the model's validity out the window. Any first year actuarial student can tell you that.
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