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Old 11-06-2007, 11:12 AM   #21
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Originally Posted by Spanky View Post
If the fund's return (after all fees deducted) is in par with that of market index, there is no need to deduct the fee from an estimated SWR.
Spanky, you bring up a good point, so I went to the Vanguard site and got the latest 1yr S&P 500 return and the return for the Vanguard 500 Index fund.


500 Index Fund Inv 16.31%
S&P 500 Index 16.44%

The expense ratio for the fund is .18% and you'll see that the fund under performs the index by an amount very close to the expense ratio. The same holds for 3 and 5 year numbers but is less pronounced in the 10 year number.

I don't know if these performance numbers take dividends into account.

So, even if you are using index funds in your portfolio, I think it still makes sense to deduct fund management fees from the SWR if you are basing it on the studies that use indexes and not funds for their calculations & findings.

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ww.
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Old 11-06-2007, 11:13 AM   #22
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Jimoh:

You need to do some more reading about SWR's.

Your assumptions are not valid.

- You might start with the Bernstein article:

The Retirement Calculator from Hell
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Old 11-06-2007, 11:18 AM   #23
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Originally Posted by MasterBlaster View Post
Jimoh:

You need to do some more reading about SWR's.

Your assumptions are not valid.

- You might start with the Bernstein article:

The Retirement Calculator from Hell
Be specific. Why? The article had nothing to do with expenses and is something I have seen before. Your argument is about expenses, then you show an article about asset allocation.

Assuming I am 80-20 the year I retire, and that my mix of mutual funds is returning me a solid 8% (or more).

The expected return of the investment portfolio is 8%. My MF assess their annual fees in neightborhood of .7%. Therefore the "real" return is 8.7%, but because the fees are taken out before the money hits my account, the real return to me is 8%.
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Old 11-06-2007, 11:20 AM   #24
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Then of course

you have to consider what risk is as small value has been higher return and lower risk than the market. While large fees will definitely hurt the safe withdrawal rate, low fees would be swamped by individual portfolio returns. Using a long term return should yield a better estimate than market less fees, especially with a nonmarket allocation and over near future rather than the distant past. Adjusting withdrawals for performance makes considerable sense, particularly over the long term.
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Old 11-06-2007, 11:24 AM   #25
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Jimoh:

Even though your average growth is on the order of 8 %. If you need income to live on, if you retire into a dropping market you will spend everything before the market has a chance to recover.

Quoting from the Bernstein article:


These calculators all make the same erroneous assumption -- that your expected rate of return is the same each and every year. In other words, let's assume that the real (inflation adjusted ) rate of return of the S&P 500 will be 7% in the future. You might conclude that you can withdraw an inflation adjusted $70,000 of your $1,000,000 Vanguard Index Trust 500 IRA each and every year indefinitely, and maintain yourself with the same real income in the long run. And you'd be wrong.

It turns out that if you have rotten returns in the first decade you will run out of money long before reversion to the mean saves your bacon in later years.


Look at some of the diagrams in the article, It's not a pretty picture.

Again... SWR's are to protect you from yourself in bad markets.
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Old 11-06-2007, 11:25 AM   #26
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you have to consider what risk is as small value has been higher return and lower risk than the market. While large fees will definitely hurt the safe withdrawal rate, low fees would be swamped by individual portfolio returns. Using a long term return should yield a better estimate than market less fees, especially with a nonmarket allocation and over near future rather than the distant past. Adjusting withdrawals for performance makes considerable sense, particularly over the long term.
Agreed on many levels:

1) keep expenses under control.
2) long term returns steady out significant deviations.
3) adjusting withdraws in down years makes sense.

Anecdotal comments
1) the goal is to maximize return, not minimize expenses.
2) My plan includes building up cash reserves equal to or exceed 7 years of expenses. The primary reason is to avoid the negative effects of a down year (or two or three or four...) early in retirement. Having a cash cushion which does not force me to sell at bottom is a major aspect of my retirement plan.
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Old 11-06-2007, 11:27 AM   #27
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Jimoh:

Even though your average growth is on the order of 8 %. If you need income to live on, if you retire into a dropping market you will spend everything before the market has a chance to recover.

Quoting from the Bernstein article:


These calculators all make the same erroneous assumption -- that your expected rate of return is the same each and every year. In other words, let's assume that the real (inflation adjusted ) rate of return of the S&P 500 will be 7% in the future. You might conclude that you can withdraw an inflation adjusted $70,000 of your $1,000,000 Vanguard Index Trust 500 IRA each and every year indefinitely, and maintain yourself with the same real income in the long run. And you'd be wrong.

It turns out that if you have rotten returns in the first decade you will run out of money long before reversion to the mean saves your bacon in later years.
This assumes I need to withdraw every year to generate income. I don't plan to do this. I plan to work an extra year or two to set aside around 7 years expenses in cash. In down years, this is what is used. In up years, one years cash is added to this account from the returns of an 80-20/60-40 type portfolio.

This also gives some years with zero or real low tax basis (as taxes would be already paid on money in cash), which allows for other planning things as well (converting more money to a Roth in those years, for example).
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Old 11-06-2007, 11:33 AM   #28
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The SWR discussion usually assumes a fixed withdrawal adjusted each year for inflation. Just how low can you go? Can you hold out for a decade ?

getting back to the original topic, fees matter and come right off the top of the amount that can be safely withdrawn. Jimoh's and others ill-informed logic misses the point.
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Old 11-06-2007, 12:22 PM   #29
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These calculators all make the same erroneous assumption -- that your expected rate of return is the same each and every year.
I also see this as one of the biggest errors folks make. In actuality, the probability of any single year having "average" investment returns is very small. Whenever someone mentions building a spreadsheet based on some average expected investment return, I cringe.

I'm also confused about folks who preach putting 20% to 30% of your retirement assets in cash. Seems kind of high.......

But, we'll not know who had the best formula until decades from now! So, pay your money, take your chance and we'll talk about it in hell!
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Old 11-06-2007, 12:29 PM   #30
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Spanky, you bring up a good point, so I went to the Vanguard site and got the latest 1yr S&P 500 return and the return for the Vanguard 500 Index fund.


500 Index Fund Inv 16.31%
S&P 500 Index 16.44%

The expense ratio for the fund is .18% and you'll see that the fund under performs the index by an amount very close to the expense ratio. The same holds for 3 and 5 year numbers but is less pronounced in the 10 year number.

I don't know if these performance numbers take dividends into account.

So, even if you are using index funds in your portfolio, I think it still makes sense to deduct fund management fees from the SWR if you are basing it on the studies that use indexes and not funds for their calculations & findings.

Regards,
ww.
Thanks for looking that up.
If a person is worried about the .18% then they should not ER.
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Old 11-07-2007, 10:14 AM   #31
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This assumes I need to withdraw every year to generate income. I don't plan to do this. I plan to work an extra year or two to set aside around 7 years expenses in cash. In down years, this is what is used. In up years, one years cash is added to this account from the returns of an 80-20/60-40 type portfolio.
So you plan to divide your "Total Investments Portfolio" into X dollars of stocks and bonds, plus 7 years times 8% of X in cash. I believe that gives you:

X + (7 * 0.08 * X) = Total Portfolio
1.56 * X = Total Portfolio

Using an annual withdrawal rate of 0.08 * X and solving for the percentage withdrawal yields (0.08 * X) / (1.56 * X) = 0.051282...

So you plan to withdraw about 5%/year of your TOTAL portfolio despite having about (7 years times 5%/year) or 35% of your TOTAL portfolio in cash.

If you also plan to adjust your withdrawals based on inflation, I don't think that plan would have survived well in the past. If you plan to always withdraw about 5% of your portfolios then current balance the plan will survive, but your yearly withdrawal amount will be quite a roller-coaster ride.
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Old 11-07-2007, 10:26 AM   #32
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Do you deduct the fund management fees when you do your SWR calculations?
Yes.

I have not convinced my father or one of my brothers yet, they pay around 1% a year for management.

My own portfolio is basically a mix of Stocks, Treasuries, and Vanguard index funds, so my total yearly management expenses are below 0.2%. I structured it that way once I realized that paying 1% a year for management meant I could reasonably safely withdraw only about 3% instead of 3.8% of my portfolio.

I do not make an allowance for "spread" and other hidden transaction costs, but with my very low turnover portfolio, I hope those costs are not material.
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Old 11-07-2007, 10:37 AM   #33
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So you plan to divide your "Total Investments Portfolio" into X dollars of stocks and bonds, plus 7 years times 8% of X in cash. I believe that gives you:

X + (7 * 0.08 * X) = Total Portfolio
1.56 * X = Total Portfolio

Using an annual withdrawal rate of 0.08 * X and solving for the percentage withdrawal yields (0.08 * X) / (1.56 * X) = 0.051282...

So you plan to withdraw about 5%/year of your TOTAL portfolio despite having about (7 years times 5%/year) or 35% of your TOTAL portfolio in cash.

If you also plan to adjust your withdrawals based on inflation, I don't think that plan would have survived well in the past. If you plan to always withdraw about 5% of your portfolios then current balance the plan will survive, but your yearly withdrawal amount will be quite a roller-coaster ride.
Not sure where 7*.08 came from. Some of other math looks like government logic/funny math too.

Here's my math.

Assume 45k of expenses. Need 25X that in equities and 7X this in cash the day I retire. Suggests I need to work a year or two longer, but with two kids on the way right now, the kids actually suggest I will need to work longer to support them, as I should have enough to retire when they are 16 or 17.

45k*(25+7)=$1.44 M. The 25X position will be about 80-20 (equities/bonds). The 7X position will be cash and some inflation indexes securities. The whole purpose of the 7X position is to minimize impact of an early down year in retirement. It may not be a permanent part of portfolio every year of retirement.

25X position need to be $1.125 M based on expenses of today. An 8% return on this is 90k. Twice the spending amount I need. The plan would be to withdraw 45k and put it into a 3 year bond. Reinvest the other 45k into the 80-20 position.

The 7X position has 3 components. Component 1 is A savings account with 1 years expenses. This is the money I spend each month/year. Component 2 is a 3 year CD ladder. 3 CDs of 45k each. This is the money I spend next year. When CD matures, it rolls over into savings account. The third component is 3X income in something indexed to inflation. This is $135k. At end of each year, 1/3 of this position is sold and a 3 year CD is purchased. This is the amount withdrawn from the 80-20 position (so the amount needed to be withdrawn from equity position increases based on the performance of the inflation adjusted bond position).

In a down year, I do not draw down the equity position. It is possible to do this same strategy with 5X income in cash (2X in CDs and 2X in inflation bonds). I only intend to withdraw in years where the 80-20 portfolio earned more than 1X expenses.

7X was chosen because that is enough time for market to recover from a bear market (Bear 2000-2002 hit old highs about 5-6 years later). Experience might suggest I alter this plan some. There are some tax considerations (some of my portfolio is in a Roth, and there will also be RMDs from 401k/IRA at some point).

This plan has holes in it right now, but SWR is actually much lower than 4%, because the equity position will be 25X by itself prior to retiring... the 7X position is created in addition to the 25X position.
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Old 11-07-2007, 11:30 AM   #34
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7X was chosen because that is enough time for market to recover from a bear market (Bear 2000-2002 hit old highs about 5-6 years later).
Looks like your plan is relatively conservative jIMoh. You plan for your actual withdrawal rate to be 3.1% vs. the normally accepted 4% SWR. And you may have SS and perhaps some pension to lower the actual withdrawal rate even lower. Very nice.

Don't forget to analyze your total portfolio (the 25X and the 7X in aggregate) since, in reality, together they comprise a single pot of money (your total retirement portfolio). While separating them into categories can be a convenient mental crutch during planning, investment conditions over time will impact everything.

Also, there is always some overlap in categorizing fixed investments. For example, you're calling your savings account, 3 yr CD's and inflation protected investments all cash. Additionally, you're planning for $225k of bonds. Since I categorize 3 yr CD's and inflation protected instruments as fixed, I'd look at your aggregated retirement portfolio as:

3% ($45k) cash (savings account)

34% ($495k) fixed (3 yr CD's, inflation protected, misc bonds)

63% ($900k) equity

100% ($1440k) Total retirement portfolio

3.1% ($45k/$1440k) planned withdrawal rate

Just another, more traditional, way of looking at what you're doing. Your plan looks very rational to me.
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Old 11-07-2007, 11:51 AM   #35
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Looks like your plan is relatively conservative jIMoh. You plan for your actual withdrawal rate to be 3.1% vs. the normally accepted 4% SWR. And you may have SS and perhaps some pension to lower the actual withdrawal rate even lower. Very nice.

Don't forget to analyze your total portfolio (the 25X and the 7X in aggregate) since, in reality, together they comprise a single pot of money (your total retirement portfolio). While separating them into categories can be a convenient mental crutch during planning, investment conditions over time will impact everything.

I'd look at your aggregated retirement portfolio as:

3% ($45k) cash (savings account)
34% ($495k) fixed (3 yr CD's, inflation protected, misc bonds)
63% ($900k) equity
100% ($1440k) Total retirement portfolio

3.1% ($45k/$1440k) planned withdrawal rate
One issue with including cash as part of portfolio.

I have 3 months cash already in an EF for wife and myself. I'd like to get this to 6 months cash within a year or two. However this is not part of "asset allocation" because I'm not going to go buy more stocks with it if market goes down 25% tommorrow.

So that being said, the goal is to get the cash position high enough I can leave the rest of portfolio at 80-20 or 70-30 until age 65 or so. The 80-20 is something I follow closely (I am 99-1 right now, and sell 1% every 6 months to bonds)- I rebalance between these two positions 2X per year now. I don't look at cash as part of this picture.

I have sliced spreadsheets up to figure out if 25X income goal (4% SWR) could have a cash position and still work. If I get positive returns the first few years, then everything is fine... but the whole point of 7X is if returns are negative the first few years.

One example I played with, for example, was to put 10X income aside, with 1X in savings, 2X in CDs and 7X in dividend paying stocks. Then try to get the 7X dividiend position to point where the yield gave me 25% of my income. This also came close to working with my numbers.
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Old 11-07-2007, 01:13 PM   #36
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Not sure where 7*.08 came from.
I read your previous posts as saying you were assuming an 8% withdrawal rate from the equity/bond portion of your total portfolio to match your expenses, but you were going to also keep 7 years expenses in cash so you believed the 8% withdrawal rate was OK. Thus 7 years * 8%/year = 7 * 0.08 = your planned cash allocation. That all worked out to roughly a 5% withdrawal rate, which does not seem very sustainable. :confused:

I read your most recent post as assuming 32X your yearly expenses will be invested in a mix of equities, bonds, CDs, and cash. That is a 3.125% withdrawal rate, which does look sustainable. Even if you omitted an 0.875% expense ratio when performing your SWR calculations, you would still be in the reasonable SWR ballpark given that you plan to keep around 20X your yearly expenses in equities.

That only leaves the question, do you count taxes against your SWR?

Footnotes:
0.875% = 4% - 3.125%

20X equities equals the equities from 25X in an 80-20 portfolio.
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Old 11-07-2007, 01:38 PM   #37
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I read your previous posts as saying you were assuming an 8% withdrawal rate from the equity/bond portion of your total portfolio to match your expenses, but you were going to also keep 7 years expenses in cash so you believed the 8% withdrawal rate was OK. Thus 7 years * 8%/year = 7 * 0.08 = your planned cash allocation. That all worked out to roughly a 5% withdrawal rate, which does not seem very sustainable. :confused:

I read your most recent post as assuming 32X your yearly expenses will be invested in a mix of equities, bonds, CDs, and cash. That is a 3.125% withdrawal rate, which does look sustainable. Even if you omitted an 0.875% expense ratio when performing your SWR calculations, you would still be in the reasonable SWR ballpark given that you plan to keep around 20X your yearly expenses in equities.

Footnotes:
0.875% = 4% - 3.125%

20X equities equals the equities from 25X in an 80-20 portfolio.
I was expecting 8% returns, but I hope I did not suggest all 8% would be withdrawn. I see where your math came from now, but it does not make sense to calculate that way based on how I understand what you understood.

IMO the 8% return is really 8.875% in your terms- because the returns which make it into my account (dividends and interest) already had expenses taken from NAV before hand- that part of calculation is not needed (the .875%).

If you need an example, look at one mutual fund- PRFDX. 45% of my portfolio is in this fund now, and I am confident I can get an 8% return from this fund for next 40 years. The .75% ER it costs me is already part of the 8% historical returns it reports, and the expenses are taken out each day when NAV is reported, so all returns which are in my account have had expenses factored in already.

Quote:

That only leaves the question, do you count taxes against your SWR?
The 45k withdraw will be pre-tax. In my case, ER may not need much money. My paycheck covers House payment (1st and 2nd), plus IRA deposits, plus a small fraction of utilities. Wife's salary covers cars, groceries and utilities, plus spending money.

So when I ER, the basic premise is if the bills go away, my income is not needed. Wife has told me she plans to w*rk well past 50, where as I hate w*rk and cannot leave soon enough. So I have a multipronged approach to replace a portion of my income, pay off the mortgage, and her 401k will catch up over time.

The 45k in some cases might be dividend paying stocks or capital gains taxes, depending on how I organize the portfolio, plus Roth deposits. It's possible I will be withdrawing this in a real low tax bracket (married filing jointly).
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