Dr. Pfau looks at the 4% rule in an interview

[NW-Bound]

I think the reason Firecalc starts reducing expenditures at 56 (I guess from Bernicke - I've read his article but don't recall that exact detail) is because that is a time that probably most people are reducing expenditures -- but not because they are becoming enfeebled. For most people, that is probably the point at which they have completed raising and educating children (as someone who had her first child at 40 and my DH was 46 - that isn't true for us but we are outliers on this particular point).

Yes, we are both 56 now, and our youngest child finished college last year. With the college tuition gone, our expenses just got a big reduction. Right on schedule per Bernicke's model!

I do see though that even so we do have reduced consumerism. Things we would have once spent for we don't spent for now. It is kind of a been there, done that thing so our expenses are less than they were, say, 10 years ago.

Both of us stopped craving for "stuff" long ago. Things like new cars, clothing, fancy furniture, a bigger home, we care for less and less. And it's not even because we have "done that". Even things we have not owned or done, we simply do not care for anymore.

The only thing left that I still like to do is to travel, and I have been thinking I'd better do more of that soon, because in 10 or even 5 years, I may not even care for that.

Scary for a 56-yr old to say that, but then I am a geezer before my time.

I haven't read the source works either, but if it is based on averages, FIRECALC shows the average retiree could succeed with ~ 6% WR (before any Bernicke adjustment).

Not very comforting for the 49.9% on the wrong side of history.

Sure! That's why I have run Bernicke's model in FIRECalc to see how high I could go, then chuckled and went back to 3.5%WR. And that 3.5%WR may be going down with time too, because I may not care to spend. Isn't that sad?

I share your concern on LTC planning and spend more time than I'm comfortable with planning to be self-insured for that. That's a thread in itself.

NWBound, I sincerely hope you're craving experiences and adventures until you're 110 and that you use some of that stash you've put away to do whatever the hell you want ...... That's what it's all about.

I actually do not spend too much time thinking about LTC. I do not know why, but have a feeling that when my time comes, I will not linger long.

Thanks for your well wish. I do not know about traveling until the age of 110, but I can squeeze in a bit in the next 10 years, I will be happy and call my life a completely satisfactory one.

 

[youbet]

I think the reason Firecalc starts reducing expenditures at 56 (I guess from Bernicke - I've read his article but don't recall that exact detail) is because that is a time that probably most people are reducing expenditures -- but not because they are becoming enfeebled. For most people, that is probably the point at which they have completed raising and educating children (as someone who had her first child at 40 and my DH was 46 - that isn't true for us but we are outliers on this particular point).

Good point. By the time DW and I RE'd at 55 and 58, we were long time empty nesters living a strict LBYM lifestyle since it appeared MegaCorp would be booting a lot of us soon. Not surprisingly, given time for recreation and to begin progress on a list of undone projects, spending increased.

I do see though that even so we do have reduced consumerism. Things we would have once spent for we don't spent for now. It is kind of a been there, done that thing so our expenses are less than they were, say, 10 years ago.

We don't actually have a spending category labeled "consumerism" but since we've never been into consumerism, I'd guess we're probably close to even. One thing that will increase is spending on cars. I've spent so many hours crawling under cars and hitting my head on hoods, I'm really, really ready to drive newer cars. I delayed this because 2 yrs after retirment I bought a new Sienna mini-van for DS and his DW when our third grandchild was born. Now it's time for a new car FOR US!

All of this is not to say that you shouldn't plan for level spending. I understand why you would do that. For me, I plan for reductions mostly for when the kids leave.

As would we. But as mentioned, we were long time empty nesters by the time RE came along.

As far as your question - which wasn't addressed to me but I'll comment anyway. My mother is in her late 80s now and is much less active than she was years before. She just doesn't feel like going out all that much and tires very easily. She really hasn't spent a lot of money hiring others for services. When my dad died (she was in her mid-70s) she started hiring someone to mow the yard and within the last year she has started hiring someone to occasionally come in and clean her house. She does take a lot more prescriptions than she used to take - that is the main added health expenditure although with the medicare prescription plan it hasn't been a huge issue for her.

My MIL is also in her late 80's and her experiences are similar to your mom's. MIL did switch from a house to a condo though...... BTW, my MIL is another reason why I have to plan for no reduction in retirement spending, at least for now. We supplement her SS only income and some dental work and increases in food prices and condo association dues have cost me a bit the past couple of years.

I guess the age range I'm talking about in regard to spending more, not less, in retirement is our 60's and 70's though. Even a "never say die" guy like me can accept a reduction in activities in our 80's, if we're lucky enough to still be spending at all then.

 

[youbet]

I actually do not spend too much time thinking about LTC. I do not know why, but have a feeling that when my time comes, I will not linger long.
.

I'd like to not spend too much time thinking about LTC but I need to get a plan together that DW can handle should I be the one "in the home." IMO, we can afford to self-insure with no impoverishment of the remaining spouse. But DW is definitely not into money management and without me there to shuffle the deck to come up with some quick, immediate cash, it would not be pretty. Probably the subject for another thread.

 

[youbet]

Anything is possible :73-year-old becomes oldest woman to climb Mount Everest - Telegraph

But it's certainly a challenge to generalize from an outlier's experience.

Yeah, it is a challenge to generalize from an outlier....... I'm afraid the 73 yr old mountain climber will have to do it without me!

Our experience is very different than hers. We're paying more, and anticipating paying more, to do things similar to what we've already been doing, not adding mountain climbing to our list of geezer activities. It is a funny thought though.......

Substitute cruising for camping to satisfy our travel lust. Stay at a lodge and use a guide on fishing trips instead of renting a cabin and doing everything ourselves. Paying to have more house and automobile work done by others. Pay for a trainer at the health club to keep my lazy ass motivated. Maybe try a little snowbirding. That sort of thing.

 

[walkinwood]

Michael Kitces has a well written response to the Wade Pfau's paper on withdrawal rates in a low interest environment.

Safe Withdrawal Rates In Today's Low Yield Environment - Walking On The Edge Of A Cliff? - kitces.com | Nerd's Eye View

Read the comments too.

 

[FinancialDave]

I am not sure the problem is with the 4% rule, the problem has to do with the spectrum of risk profiles that abound after the market turmoil we have had since 2008.

Some investors have moved all their retirement assets to CD's at the one extreme. Do you think this investor can withdraw an inflation adjusted 4% (inflation adjustment is the basis for the 4% rule) from a CD account for very long. This is of course entirely dependend on what interest rates do.

The other end of the spectrum is my own retirement portfolio that is currently generating over 7% from a group of dividend payers, at least half of which have been increasing their dividends for over 30 years (some over 50). I would potentially not have to even touch the principal in this account, except in the few cases where a dividend payer "fell off the wagon" so to speak. The increasing dividends are also inflation protected to the extent that each company continues to increase it's dividend on a yearly basis.

In conclusion I still think the 4% rule is very much alive, as much as everyone keeps trying to redefine it. It has really not been able to be redefined over the past 50+ years and I see no need to do so now.

I see more of a need for realistic expectations based on a person's risk profile and prudent financial advice.

 

[nun]

Some investors have moved all their retirement assets to CD's at the one extreme. Do you think this investor can withdraw an inflation adjusted 4% (inflation adjustment is the basis for the 4% rule) from a CD account for very long. This is of course entirely dependend on what interest rates do.

...if they have income sources other than from their portfolio returns a CD portfolio might work.....but they could also be more aggressive safe in the knowledge that they have income that is not directly dependent on the stock market.

 

[FinancialDave]

100% CD withdraw rate

...if they have income sources other than from their portfolio returns a CD portfolio might work.....but they could also be more aggressive safe in the knowledge that they have income that is not directly dependent on the stock market.

The whole point of the risk averse is they don't want anything to do with stocks.

The current best price for a 5 yr jumbo CD at bankrate.com is 1.85%. If the rates did not improve the person would be broke after 20 years at a 4% inflation adjusted withdraw rate (using 4% for inflation.)

fd

 

[nun]

The whole point of the risk averse is they don't want anything to do with stocks.

I'd say that the smart risk averse folks don't want to rely on the stock market for their income. Once that is covered from rent, SS, pensions, annuities etc why not take on some risk with the rest of the portfolio.

 

[REWahoo]

I'd say that the smart risk averse folks don't want to rely on the stock market for their income. Once that is covered from rent, SS, pensions, annuities etc why not take on some risk with the rest of the portfolio.

That may sound good in theory but most of the risk averse folks I know don't want anything at all to do with the market, which they consider to be nothing more than legalized gambling.

 

[NW-Bound]

I wonder how the risk averse folks chose their career to make a living. Are there not risks everywhere, from being able to get accepted to schools, being able to compete and pass various tests, licensing exams, interviews for jobs? And then, you can get fired, laid off, made obsolete by technological advances? Are there ever any guarantees?

Does thinking along the above lines not make you just want give up before you even start, and accept some common service or retail jobs, and call it done?

Yes, never mind that some people could advance above the average status. They may just be lucky, and there is no guarantee that you could be so fortunate, right?

 

[Texas Proud]

I wonder how the risk averse folks chose their career to make a living. Are there not risks everywhere, from being able to get accepted to schools, being able to compete and pass various tests, licensing exams, interviews for jobs? And then, you can get fired, laid off, made obsolete by technological advances? Are there ever any warranties?

Does thinking along the above lines not make you just want give up before you even start, and accept some common service or retail jobs, and call it done?

Yes, never mind that some people could advance above the average status. They may just be lucky, and there is no warranty that you could be so fortunate, right?

Nobody said that these extreme risk adverse folks were rational....

 

[FinancialDave]

That may sound good in theory but most of the risk averse folks I know don't want anything at all to do with the market, which they consider to be nothing more than legalized gambling.

Exactly! They may be in their 70's or 80's and just could not sleep at night knowing that their money could lose value in the short term.

 

[FinancialDave]

I wonder how the risk averse folks chose their career to make a living. Are there not risks everywhere, from being able to get accepted to schools, being able to compete and pass various tests, licensing exams, interviews for jobs? And then, you can get fired, laid off, made obsolete by technological advances? Are there ever any guarantees?

Many of these people are now single after a spouse passed away and never worked much at all during their lifetime.

 

[ERD50]

I wonder how the risk averse folks chose their career to make a living. Are there not risks everywhere, ...

But the consequences of risk in the accumulation phase is different than the risk in retirement.

-ERD50

 

[kevink]

I've been following this thread (and the links to Dr. Pfau's blog posts) and have what I hope isn't a stupid question/concern. My understanding is that the 4% rule as he and FIREcalc use the term is an inflation-adjusted 4%. That never seemed prudent to me after reading Bob Clyatt's "Work Less, Live More," so I've been using his 95% rule:

The 95% rule: each year's withdrawal is the greater of 95% of last year's withdrawal or 4% of current portfolio value.

I've thought that 4% using this more conservative approach was/is reasonable, but a steady diet of Dr. Pfau has me thinking about annuitiies. Any thoughts?

 

[samclem]

I've thought that 4% using this more conservative approach was/is reasonable, but a steady diet of Dr. Pfau has me thinking about annuitiies. Any thoughts?

I haven't done the modeling, but I think 4% of your year-end portfolio balance would probably be safe. As noted earlier by ReWAHOO, even Pfau's more gloomy recent paper allows for 3.6% withdrawals (rather than the 2.8% he cites) if our investing costs are .2% rather than the 1% he uses. The buffering effect of taking a % of year-end values rather than blindly taking an inflation-adjusted percent of a base amount set decades in the past does a lot to help portfolios recover when they take a hit.
By using this "4% of year end value" method you'll never go broke. At the worst (if your portfolio's returns didn't keep ahead of inflation) your annual withdrawals would slowly lose true value, which is something that can be tracked and addressed if needed.
My guess is that Dr Pfau et al will next look at the impact of low anticipated bond returns on these variable withdrawal strategies, now that he's made the case using the simplest (and most dramatic) "fixed percent of base plus inflation" strategies.

 

[Midpack]

I've been following this thread (and the links to Dr. Pfau's blog posts) and have what I hope isn't a stupid question/concern. My understanding is that the 4% rule as he and FIREcalc use the term is an inflation-adjusted 4%. That never seemed prudent to me after reading Bob Clyatt's "Work Less, Live More," so I've been using his 95% rule:

The 95% rule: each year's withdrawal is the greater of 95% of last year's withdrawal or 4% of current portfolio value.

I've thought that 4% using this more conservative approach was/is reasonable, but a steady diet of Dr. Pfau has me thinking about annuitiies. Any thoughts?

Not disagreeing by any means as there are no universal answers, just food for "thoughts"...

Case 1 Inputs: $1MM, 35 years, solve for %WR using Percentage of Remaining Portfolio [FIRECALC "you can enter 95 to approximate the "95% Rule" from Work Less, Live More

."]

Looking for a spending level that will result in 95% success rate . . . . . . . . . . . . . . . [done] A spending level of $34,346 provided a success rate of 95.3% (106 total cycles, of which 5 failed). This spending level is 3.43% of your starting portfolio.

Base case.

Case 2 Inputs: $1MM, 35 years, solve for %WR using Constant spending model, same inflation adjusted annual income methodology as SWR.

Looking for a spending level that will result in 95% success rate . . . . . . . . . . . . . . . [done] A spending level of $38,345 provided a success rate of 95.3% (106 total cycles, of which 5 failed). This spending level is 3.83% of your starting portfolio.

Observation: Same failure rate as Case 1 with no annual income reductions and almost 12% higher annual income.

Case 3 Inputs: $1MM, 35 years, initial income of $34,346 (from case 1) Constant spending model, again same inflation adjusted annual income methodology as SWR.

FIRECalc looked at the 106 possible 35 year periods in the available data, starting with a portfolio of $1,000,000 and spending your specified amounts each year thereafter. Here is how your portfolio would have fared in each of the 106 cycles. The lowest and highest portfolio balance throughout your retirement was $33,250 to $10,357,673, with an average of $2,607,632. (Note: values are in terms of the dollars as of the beginning of the retirement period for each cycle.) For our purposes, failure means the portfolio was depleted before the end of the 35 years. FIRECalc found that 0 cycles failed, for a success rate of 100.0%.

Observation: Same income as Case 1 with no annual income reductions and 100% success rate (vs 95).

 

[samclem]

Case 1 Inputs: $1MM, 35 years, solve for %WR using Percentage of Remaining Portfolio

Looking for a spending level that will result in 95% success rate . . . . . . . . . . . . . . . [done] A spending level of $34,346 provided a success rate of 95.3% (106 total cycles, of which 5 failed). This spending level is 3.43% of your starting portfolio.

[FIRECALC "you can enter 95 to approximate the "95% Rule" from Work Less, Live More

."]Base case.

Midpack,
I defer to your FIRECalc expertise, but I can't see where the "Percentage of Remaining Portfolio" spending method provides a "number of failed cases" output. Here's the graph of spending outcomes I got using what I think you put in ($1M, 3% inflation, FIRECALC default AA, 35 year window, 3.43% WR (computed on year-end balances))

As we'd expect, the portfolio never goes to zero balance, but (as shown above in the inflation-adjusted WR amounts) it sometimes fails to keep up with inflation over time. For reference, the red and blue lines are the US poverty level (one and two person households).

Maybe there's a FIRECalc nook or cranny I'm not seeing?

 

[walkinwood]

I....

I've thought that 4% using this more conservative approach was/is reasonable, but a steady diet of Dr. Pfau has me thinking about annuitiies. Any thoughts?

Even Dr. Pfau thinks that a 4% SWR is a good place to start, but the retiree has to be prepared to adjust.
See his comment at the end of this article
Safe Withdrawal Rates In Today's Low Yield Environment - Walking On The Edge Of A Cliff? - kitces.com | Nerd's Eye View

From the comment:

About your final question, I don't think it is practical for most people to spend much less than 4%, and as well with regard to some other research you've covered that I was a part of about balancing tradeoffs, I think it can still be appropriate to start at 4% while maintaining flexibility to reduce spending later if needed.

I think about annuities, but will probably not go for them till I'm in my mid-late 60s - a good 10+ years from now. If I see trouble ahead before then, I'll probably go back to work.

 

[Brooks Saddle]

I hope this isn't a stupid question, but when I look at the Trinity Study results, and various FIREcalc results, I see very high probabilities that a person using a SWR will end up with more than their starting principal after 30 years. Am I interpreting that correctly?

When I see things in the media about "making sure you don't run out of money in your 80's" I get confused. I thought the 4% (or lower) withdrawal rates are "designed" to keep the principal there and have it grow over time?

Hence the balancing act of eating well throughout retirement but also leaving money for the offspring.

I just don't get the "running out of money" issue.

Hope I haven't confused things further--thanks!!

Here is how Dr Pfau and some others differ from Fire Calc and the Triity Study. Both of those models are based upon historical results. Dr Pfau thinks with current yields on bonds that withdrawing 4% at this time isn't safe as it will deplete too much capital. Furthermore and this is the real key to his thought, the historical returns used in Fire Calc and The Trinity study were based on a time when the USA went through an unusally prosperous time and not likely to be repeated. (that's his opinion and that of some others - I've also read that we just might be on the edge of another economic boom - you decide) When he looked at the returns of other nations during this time period, the 4% withdrawal rate did not succeed at any time much less 80% of the time if I remember his report correctly.

Also, his thoughts are based on a 4% withdrawal with inflationary increases. What if one takes just 4% of their remaining portfolio each year without inflationary increases would the results be different? I think they would. Also, with his current studies, he proposes no bonds when one retires but all stocks after setting a safe floor with pensions, annuities, and SS. By doing so he argues, the retiree has a better standard of living in retirement and will most likely leave a larger pot of money for heirs.

Dr Pfaus study is geared to those fully retired and in their 60's or older. May not be of value at this point to some of the younger early retirees.

I am a new member and this is my first post. I look forward to the dialog with all of you!

 

[Koolau]

I wonder how the risk averse folks chose their career to make a living.

Good question. You have to recall that in the "good old days", there were actually companies with the reputation of being places with life-long c@reers available. I did, indeed, attempt to seek out such a place - as a risk averse person. In fact, through thick and thin and everything in between I rarely was concerned about my j*b going away once I secured a position. Stayed at the same place for 36+ years.

I'm reminded of a line in the Eagles song "Lyin' Eyes". "Every form of refuge has its price." While my Megacorp rarely fired anyone (except for serious issues like substance abuse on the job, toting guns and violence, etc.) Folks quickly became pigeonholed and could almost never break out and go along another track. I was one of the lucky "also-rans" who was able to create a new j*b for myself within the corp and break out of the "cast" in which I was first established. Otherwise, even though I could have stayed, I would have been most miserable for 36 years.

Not sure this is totally germane to the topic, but I thought I'd answer the question. I'm quite aware that few such places exist now. In fact, my megacorp has become much less of a refuge in recent years. Good for me as a stock holder, but bad for folks I used to w*rk with who have lost jobs, had to move significant distances to keep j*bs and otherwise begun to live in fear. Naturally, YMMV.

 

[FinancialDave]

Annuities

I've been following this thread (and the links to Dr. Pfau's blog posts) and have what I hope isn't a stupid question/concern. My understanding is that the 4% rule as he and FIREcalc use the term is an inflation-adjusted 4%. That never seemed prudent to me after reading Bob Clyatt's "Work Less, Live More," so I've been using his 95% rule:

The 95% rule: each year's withdrawal is the greater of 95% of last year's withdrawal or 4% of current portfolio value.

I've thought that 4% using this more conservative approach was/is reasonable, but a steady diet of Dr. Pfau has me thinking about annuitiies. Any thoughts?

I am not a fan of annuities at least at this point in the interest rate cycle. Annuity rates are, as you might know, based essentially on the 10 year bond rate and a payout of your principal. There are just much better uses of your capital (IMHO.)

 

[Midpack]

Midpack,
I defer to your FIRECalc expertise, but I can't see where the "Percentage of Remaining Portfolio" spending method provides a "number of failed cases" output. Here's the graph of spending outcomes I got using what I think you put in ($1M, 3% inflation, FIRECALC default AA, 35 year window, 3.43% WR (computed on year-end balances))

As we'd expect, the portfolio never goes to zero balance, but (as shown above in the inflation-adjusted WR amounts) it sometimes fails to keep up with inflation over time. For reference, the red and blue lines are the US poverty level (one and two person households).

Maybe there's a FIRECalc nook or cranny I'm not seeing?

I'm NOT an expert by any means, more like 'a little information is dangerous' in my case. Unfortunately I can't "see" your attachment on my PC for reference.

I just repeated my case 1 and got the same result as shown above including number of cycles & failures (it was cut-n-pasted directly).

• On the Start Here tab, I input $1MM and 35 years.
• On the Spending Models tab, I chose the Percentage of Remaining Portfolio and input 95 in the associated input box (since Clyatt's 95% rule is highlighted with that option.
• On the Investigate tab, I chose the Given a success rate, determine spending level for a set portfolio, or portfolio for a set spending level, left success rate at the default 95%, and chose Spending Level. I am guessing this is where our inputs differed.
• Hit Submit.

If that misrepresents the base case, please let me know so I can correct it.

 

[Brooks Saddle]

I am not a fan of annuities at least at this point in the interest rate cycle. Annuity rates are, as you might know, based essentially on the 10 year bond rate and a payout of your principal. There are just much better uses of your capital (IMHO.)

I agree with you 100%. There is, however, a different school of thought that says as long as you don't buy with funds from bonds. When interest rates rise, the value of bond portfolios will decrease. This would mean that a future date that you can buy an annuity cheaper because of higher interest rates but have less money to do it with.

For the sake of simplicity, I didn't include the fact that as one gets older annuities get cheaper.