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Dirk Cotton -"Statisticians Make the Worst Clients"
Old 10-05-2013, 01:28 PM   #1
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Dirk Cotton -"Statisticians Make the Worst Clients"

I saw this guy Cotton mentioned in another thread and Googled him. Here is an interesting vignette which to me illustrates very well the complete absurdity of this entire SWR concept. Clearly FAs, no matter how they are compensated or how they present themselves, are mainly salespeople. If they were not FAs they would not likely be actuaries, they would be selling something else. Likewise with the academics in FA programs. Their main job is to come up with plausible, believable, and hence saleable stories to tell clients.

Wade Pfau's Retirement Researcher Blog: Dirk Cotton: Statisticians Make the Worst Clients

People here know this, although they usually do not hold it on page one of their memory bank. When members say, "of course if markets are very bad, no one would just go on spending as before", they are implicitly rejecting the SWR mantra. It however remains a talisman to allow a leap of faith, which is basically what early retirement is.

SWR usually works, I would guess, because it suggests a withdrawal rate that is more or less reasonable for moderate conditions, and conditions are usually not extreme.

But then, anything usually works as evidenced by the fact that we see very few oldsters pushing their shopping carts along looking for some hidey-hole to survive another night. An older person who has a modest income (usually solely SS) and is not a raving psychotic, or who does not insist on smoking or drinking in his room can find a short waiting list for subsidized senior housing that can be pretty attractive.

I know we need SWR as a handy shortcut and supporting fiction, but I really cannot see anything wrong with the retiring statistician's critique. To me, the only condition in which the constant % of starting portfolio value (SWR) withdrawal idea makes any sense at all is if someone retires under normal or only somewhat advanced PE10 or other valid valuation metric, and the world appears to be progressing as it has over the last 1.25 centuries.

In fact however, we know that many more people retire at peak valuations because that is when they achieve "their number". And we also know that current economic conditions are not the average of the past 1.25 centuries. History just is not that way very often.

Ha
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Old 10-05-2013, 01:53 PM   #2
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SWR is just a guide. That was a fun read.

I once considered doing the FA thing in semi-retirement. I know a few, and they are all salespeople. Actually, a good friend went into it in semi-retirement and now is not such a good friend. "Friends don't let friends sell annuities." I'm not a salesperson, so I know this isn't for me. I would buckle badly if I had a client like this fictional -- but surely based on real -- client.

Aside from that... Your title got my interest. I've heard our IT (computer support) people say that "Software Engineers make the worst clients." Same principle, different set of professions.
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Old 10-05-2013, 02:37 PM   #3
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Are you telling me handgrenadges and horseshoes don't work! Harumph! After 20 years the wing didn't fall off and I never packed a parachute. Stay the course did create a tight pucker once in while though.

Amusing read.

heh heh heh - . Er I did alter expenses periodically - truth told.
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Old 10-05-2013, 05:21 PM   #4
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Interesting post, amusing link. Others may have noticed that Dirk Cotton went on to comment on Wade's blog further down the page...
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Old 10-05-2013, 05:46 PM   #5
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Originally Posted by haha View Post
I know we need SWR as a handy shortcut and supporting fiction, but I really cannot see anything wrong with the retiring statistician's critique.
Thanks for posting the article. DH and I think and invest like the statistician.
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Old 10-05-2013, 06:02 PM   #6
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Three statisticians went bow hunting.

When they came upon a deer, the first statistician knocked his arrow, pulled back the string, and released. Swiiiish! His arrow flew silently a meter behind the buck's head, who calmly continued his reverie.

The second statistician knocked an arrow, pulled back, and swiiish. His shaft flew a meter in front of the buck, who, observing its flight, bolted and disappeared into the brush.

"Great!," said the third statistician, "we got him."
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Old 10-05-2013, 10:14 PM   #7
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I guess I don't get it. It seems like a bit of a straw-man argument to me, as nothing predicts the future. So how can one plan be criticized over another on that basis?


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Originally Posted by haha View Post
... When members say, "of course if markets are very bad, no one would just go on spending as before", they are implicitly rejecting the SWR mantra. ...
I can't speak for others, but referring to a 'SWR mantra' does seem like a bit of a straw-man to me. A 100% success rate on a tail-end LE tells me what would have succeeded in the past. It's a bit of a reference point, but I may live longer, things can be worse in the future, any number of issues could derail my plans. I know I will need to re-evaluate as I go along. I just don't see SWR as a mantra, but as a starting point.

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It however remains a talisman to allow a leap of faith, which is basically what early retirement is.
I agree with this. That's the hardest thing to accept, I think. No matter how you look at it, it is a leap of faith. And I'd guess most of us here are people who like to be in control (it seems unlikely to achieve FIRE w/o taking control of many aspects of your life). It isn't easy. But neither is working till the day you die.

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SWR usually works, I would guess, because it suggests a withdrawal rate that is more or less reasonable for moderate conditions, and conditions are usually not extreme.
This doesn't seem right to me. Again, I prefer to look at 100% success rates, and those include the extremes of the past, not just the moderate conditions. If I look at moderate conditions, a much higher WR could be drawn.


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I know we need SWR as a handy shortcut and supporting fiction, but I really cannot see anything wrong with the retiring statistician's critique. To me, the only condition in which the constant % of starting portfolio value (SWR) withdrawal idea makes any sense at all is if someone retires under normal or only somewhat advanced PE10 or other valid valuation metric, and the world appears to be progressing as it has over the last 1.25 centuries.
Again, I don't think this is true. A 100% historical success rate (HSWR) gets you through retiring at ALL the past valuations w/o any cuts in buying power. The failures in FIRECalc are far from the averages, those are the times of bad valuations.

But there is food for thought here. So a HSWR survives the past dips - this would likely tell us that it would survive future dips of that magnitude. If a future dip goes even deeper than past dips, then that is certainly a time for re-evaluation.

At any rate, it almost seems like a moot point to me - what is the alternative? For example, if I say I'm going to only live off divs and interest, and never touch principal, and adjust my spending to match - I only have history to tell me anything about how dividends held up. What can I know about the future buying power of that plan? Same with just saying I will only spend X% of a portfolio each year. Mathematically, you never go to zero, but your spending may get pretty close. It's just a different way to spell "FAIL".

It is a leap of faith.

Bottom line, my plan is to start with a conservative 'SWR' (though I just prefer to call it a 'WR' - we won't know if it safe or not until after the fact). And a conservative WR is converging on a 'live off dividends' plan, so I think any distinction kind of fades away. As time goes on, I plan to re-evaluate along the lines of that 'Auto-pilot' idea:

Put retirement savings withdrawals on autopilot - MarketWatch

which is taking a conservative RMD % of portfolio into consideration.

Regardless which path any of us choose, let's wish each other a bit of luck - we are probably going to need it!

-ERD50
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Old 10-05-2013, 10:25 PM   #8
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Let me try a more succinct version of that:

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Originally Posted by haha View Post
... When members say, "of course if markets are very bad, no one would just go on spending as before", they are implicitly rejecting the SWR mantra. ...
So if they are rejecting it, it's not a mantra, right?

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Old 10-05-2013, 10:39 PM   #9
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Originally Posted by ERD50 View Post
Let me try a more succinct version of that:



So if they are rejecting it, it's not a mantra, right?

-ERD50
Whatever you want is OK by me. I am maybe one of the hardest men here to get involved in a debate. I just don't mind it all what others think, and I respect your thoughts and anyone else's too. I just prefer not to debate.

For anyone who is interested, I recommend Dirk Cotton's blog. He is an unusually good writer too.

I think most of us might reject the political posture which seems implicit and occasionally explicit in his writing. He thinks our 401 K based defined contribution retirement system is designed for the failure of most participants, and that a public professionally (governmentally) organized centrally managed system is required.

Since most of us are happy DIY investors, and can see that our early retirements would be buried under others' needs in any public system, this does not seem likely to be a winning idea on this forum.

The basic problem is that the entire developed world is living above its means.

Ha
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Old 10-05-2013, 10:40 PM   #10
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At any rate, it almost seems like a moot point to me - what is the alternative?
Ah, but Mr Cotton comes to the rescue with his 12 Oct comment:
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I personally believe a retiree should establish a floor to cover a basic standard of living from TIPs or annuities. After that, invest in stocks if you so desire.
TIPS and annuities. The yield on TIPS is very poor. And, as an FA, he probably knows some folks that can get you set up in some great annuities.

Why doesn't he follow up with the main thrust of the statistician's argument: That real people modify their spending to match their means in retirement. A "% of year-end portfolio valuation" approach (perhaps "softened" per Clyatt's 95% rule) has worked well on an historical basis. Then just keep track of whether you are gaining or loosing spending power over time--if losing, then cut back.
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Old 10-05-2013, 10:52 PM   #11
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Whatever you want is OK by me. I am maybe one of the hardest men here to get involved in a debate. ...

Ha
I understand that, and it's fine by me as well. To clarify, despite what probably looks like 'debate' from me, I'm really just trying to probe these ideas/concepts. Mostly to test my own thinking on the matter.

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Ah, but Mr Cotton comes to the rescue with his 12 Oct comment:

TIPS and annuities. The yield on TIPS is very poor. And, as an FA, he probably knows some folks that can get you set up in some great annuities.
....
And so when you get down to it, wouldn't TIPS and annuities just define some (probably very low) SWR? And not leave any room to adjust in the future? And the annuity leaves inflation up for grabs. It all seems cut from the same cloth to me. Choose your poison?

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Old 10-05-2013, 11:48 PM   #12
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I'll address these. Cotton does too, although I think he only once says that TIPS rates are too low for all but the wealthiest to fund a decent life.

I reject annuities as you do, and I think for the same reasons- inflation risk is left wide open. That combined with historically low interest rates and completely distorted money and bond markets seem to me to make long term fixed investment a big risk.

One thing he goes into fairly carefully is that fixing a percentage rate of year end portfolio value in all cases dominates a constant dollar withdrawal.

I also feel that a strategy focused not necessarily on high dividend stocks, but on high quality stocks with growing dividends pretty much solves the sequence of returns problem. I haven't had to sell securities for income rather than portfolio management reasons in many years, and I am not a wealthy person. This does however create another problem- bad decisions can cost a great deal, and there is a greater burden of close management.

If I currently enjoyed real estate management, or continuing to operate a business, this is what I would likely do. But I don't, so I must invest in securities or ETF or bond funds with reasonable income and minimal long term exposure to fixed interest rates.

Ha
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Old 10-06-2013, 12:18 AM   #13
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Originally Posted by haha View Post
I know we need SWR as a handy shortcut and supporting fiction, but I really cannot see anything wrong with the retiring statistician's critique. To me, the only condition in which the constant % of starting portfolio value (SWR) withdrawal idea makes any sense at all is if someone retires under normal or only somewhat advanced PE10 or other valid valuation metric, and the world appears to be progressing as it has over the last 1.25 centuries.
I don't see the fictional conversation in the article as a critique of SWR methodology itself but rather a critique of how people interpret and possibly use the studies. The comments about a priori probability comes up often on finance boards when someone raises the "paradox" of two people retiring one year apart but because of a crash they have wildly different withdrawal rates at the same swr percentage.
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Old 10-06-2013, 10:35 AM   #14
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For sure!

Ha
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Old 10-06-2013, 10:39 AM   #15
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I'll address these. Cotton does too, although I think he only once says that TIPS rates are too low for all but the wealthiest to fund a decent life.
That is true is you live a normal, consumer oriented life and remain in the U.S. or some country equally expensive.

Instead of being wealthy, an alternative approach is to have really low expenses. This is the movement on the younger ER forums, Mr. MM and extreme early retirement. If you have 50 years of expenses covered through some combination of SS, pensions, annuities, rental income, and investments, then you can retire at 40 and your investments need only keep up with your personal inflation rate to make your retirement plan work.

If you have a mortgage free house, a paid for Prius, can do your own home repairs, a bike and live near public transportation, eat mainly made from scratch vegan meals, buy your clothes at thrift shops, use under 10 kw a day of electricity, get your appliances, furniture and sport equipment from Craigslist, meetups and the library for entertainment how much do you really need to live? I know that isn't the life many here aspire to, but many MMM followers would rather live like that and have all the free time in the world to do their own home repairs, cook from scratch, garden, bike and get books from the library than work / commute 50+ hours a week at soul sucking jobs they hate.

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I also feel that a strategy focused not necessarily on high dividend stocks, but on high quality stocks with growing dividends pretty much solves the sequence of returns problem. I haven't had to sell securities for income rather than portfolio management reasons in many years, and I am not a wealthy person. This does however create another problem- bad decisions can cost a great deal, and there is a greater burden of close management.

If I currently enjoyed real estate management, or continuing to operate a business, this is what I would likely do. But I don't, so I must invest in securities or ETF or bond funds with reasonable income and minimal long term exposure to fixed interest rates.
We aren't into real estate management either, but we do buy TIPS and I bonds, will keep a a couple of low time commitment businesses going and are are interested in moving more towards dividend paying stocks.

But the number one thing that has helped us is to cut our expenses because we have total control over those while we don't have any control over the stock market or interest rates.
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Old 10-06-2013, 11:02 AM   #16
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I look at your list of requirements to qualify, and your description of the life that you say could be achieved, and I think, sure, have at it.

Every generation forgets what the previous generation learned. There was a big back to the land simple living movement in the US in the 30s, then again in the late 60s-70s. Many of these people were products of elite education, and not infrequently from families with money and connections.

For all but the most extreme personalities and sociopaths into controlling others, the lifestyle got old fairly fast. They got tired of depressing thrift shops, bland food, poorly heated dwellings and the able ones got back into the economy, the others made a life of welfare and poverty.

Today's generation may be much more steadfast, but then your Pied Piper himself escaped into Wall Street.

Ha
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Old 10-06-2013, 11:35 AM   #17
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Today's generation may be much more steadfast, but then your Pied Piper himself escaped into Wall Street.

Ha
Oh he is not my pied piper, and I don't live like the more extreme ERE or MMM folks. I would never live at poverty level and then sit around and not work, like the guy in the ERE blog did initially. I am just saying that being wealthy isn't the only way to retire on TIPS and SS. There are posters here who have figured out how to have a nice retirement by keeping expenses very low, like imoldernu.

I don't do most of extreme things on the other ER blogs. But just doing simple things like decreasing processed foods, cooking more from scratch, switching to LED bulbs, turning off lights, using more cloth and less paper towels, not buying more clothes than I really need, eating way less fast food, using drying racks instead of the dryer, making our own natural cleaning supplies, and just a whole bunch of little things like that has really lowered our annual expenses while not impacting our basic lifestyle.

Many of these things are healthy, good for the environment and they save a lot of money, too. I wish I'd bought a smaller house and had more sustainable habits over the past 30 years. The savings would have really added up.
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Old 10-06-2013, 11:41 AM   #18
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...(snip)...
I know we need SWR as a handy shortcut and supporting fiction, but I really cannot see anything wrong with the retiring statistician's critique. To me, the only condition in which the constant % of starting portfolio value (SWR) withdrawal idea makes any sense at all is if someone retires under normal or only somewhat advanced PE10 or other valid valuation metric, and the world appears to be progressing as it has over the last 1.25 centuries.
...
I retired in 2003 and started using the 4% of portfolio plus inflation number. But often we spent above that for reasons I won't mention because they aren't relevant for this.

Anyway, last year I thought that maybe 4% of the end of year portfolio to spend in the next year was a better more conservative strategy. Why did I choose this? First, it turned out to be the same number as the inflation adjusted number!!! Why was that? I haven't even tried to figure that out. Secondly, I could finally do that because we were taking SS and Medicare was clicking into place (reduced medical insurance costs from my former Mega Corp). So it was easy now.

Bottom line, I partly choose my withdrawal strategy based on ease of doing it. No blood and tears here.

Probably I'm the only guy who is doing this self-serving thing?
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Old 10-06-2013, 11:41 AM   #19
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... The comments about a priori probability comes up often on finance boards when someone raises the "paradox" of two people retiring one year apart but because of a crash they have wildly different withdrawal rates at the same swr percentage.
Actually, this paradox can be resolved. I've had some discussions with poster Siamond regarding this.

So take this apparent paradox, person A and person B have identical $1M portfolios and scenarios, A is one year older than B. A retires at a market peak and takes $40,000 (4% of current portfolio). The market drops 20% next year, B retires and the 'rule' says B can only take $32,000, while A keeps taking $40,000 (assume inflation was nil for simple numbers, and this also ignores the $40K WD from A - but those are small deltas).

But if you think about what is behind the 'rule', you will see that B can take $40,000 as well. It really comes down to valuations, and it is implied, but not stated/explained in FIRECalc.

The market was relatively overvalued when A retired versus when B retired. Therefore, B's 4% is actually more conservative than A's 4%. So B can take $40,000/$800,000 (5%) with the same relative safety as A's$40K/$1M (4%).

Let's use the 100% Historically Safe Withdraw Rate (HSWR) to make this clearer (3.59% for 30 years). So stated another way, that 3.59% assures 100% historical safety even if you retire at the historically worst market valuations. If you retire at any other, more moderate starting points, you could increase your WR - this should be obvious. Back to 85% success rates, that is why person B can increase to 5% - he is down from a peak, and therefore his valuation is not the same as A's. If A can take $40K from a down portfolio, B can as well.

Of course, this is all relative. If the future is worse than history's worst, all plans will be effected one way or the other.

Later, I'll see if I can model this in FIRECalc by delaying spending by several years. But it's a nice fall day, I should get outside.

-ERD50
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Old 10-06-2013, 12:21 PM   #20
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Actually, this paradox can be resolved.
Agree it's not really a paradox. One issue is the valuation problem as you note and the second is the "a priori" estimate that cotton refers to (i.e., you should update your estimates as new information -- i.e. a bad year) comes in.
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