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

[nun]

Milevsky is a very bright guy, I've read several of his articles. But for those who want to put some of their portfolio into an annuity, investing 1/3rd seems arbitrary. Otar's methodology makes more sense to me (he has fans & not here). How much you annuitize should be governed more by meeting your floor or basic income needs through pensions/annuities. That could be less than 1/3rd or much, much more. YMMV

+1, If you can cover you expenses from SS, rent etc they act as your annuity and you could go 100% equities with your portfolio. If you need an annuity along with SS, rent etc to cover your basic needs make sure you account for inflation if the annuity is not COLAed

 

[rbmrtn]

This article appeared on MarketWatch this morning, "4% rule gets downsized"

Retirement's "4% rule" for nest-egg withdrawals gets downsized - Encore - MarketWatch

There is a link in the article that takes you the PDF from Morningstar, Pfau is one of the authors.

http://corporate.morningstar.com/ib...searchPapers/LowBondYieldsWithdrawalRates.pdf

 

[REWahoo]

This article appeared on MarketWatch this morning, "4% rule gets downsized"

Retirement's "4% rule" for nest-egg withdrawals gets downsized - Encore - MarketWatch

The "bottom line" from the above link:

in today’s markets, retirees who want “a 90% probability of achieving a retirement income goal with a 30-year time horizon and a 40% equity portfolio” should withdraw just 2.8%.

Before anyone relying on drawing 4% panics, note this from the article:

the authors also assumed that retirees will lose one percentage point in annual returns to investment fees.

Using low-cost funds and managing your own investments you can easily cut that 1% fee to 0.2%, allowing that 2.8% to become 3.6% - not far from the traditional withdrawal number. One more example that "cost matters".

 

[Animorph]

The Morningstar article today also admits that additional stock will also help, since the problem their talking about is low bond returns. Just sayin'...

 

[audreyh1]

My definition of LBYM in retirement is that you don't spend principal. Given the dependence on your portfolio to produce income, rather than a job, it seems foolish to eat into it.

To me, that's an extremely restrictive definition of LBYM. There is absolutely nothing wrong with spending down principal over one's lifetime. You just can't be that aggressive about it so you don't go to zero while still alive.

 

[ERD50]

The "bottom line" from the above link: Before anyone relying on drawing 4% panics, note this from the article:
Using low-cost funds and managing your own investments you can easily cut that 1% fee to 0.2%, allowing that 2.8% to become 3.6% - not far from the traditional withdrawal number. One more example that "cost matters".

Whew! Thanks for that follow up - I didn't exactly 'panic', but I did raise an eyebrow. Very good example of just how important that 'little' 1% fee is, and the overwhelming advantage of DIY.

-ERD50

 

[rayvt]

My definition of LBYM in retirement is that you don't spend principal. Given the dependence on your portfolio to produce income, rather than a job, it seems foolish to eat into it.

This is an empty definition. It's just a slogan that doesn't have any concrete meaning.

What does "principal" mean? If your assets are cash, CDs, bonds, etc. then, sure, it does have a standard meaning. But "principal" is meaningless when applied to stocks & other equity or equity-like assets.

If you retire with $100,000 of BRK and it goes up to $125,000 -- what then? If you withdraw $10,000, does that count as "spending principal"? Or are you only allowed to spend dividends? Which BRK doesn't pay.

If you retire with $100,000 of JNJ, which currently pays 3.2% dividend yield ($2.44 per share) -- what then? I guess you are only allowed to spend $3200 per year. What if JNJ goes up to $125,000? What if it goes down to $75,000?

Stock dividends are just a matter of the company deciding whether to keep cash to grow internally, or to distribute it to shareholders. To the shareholder, there is essentially no difference, it's just a matter of getting cash directly (via dividends) or indirectly (by selling shares).

FWIW -- Right after I started my IRA in the late 1970's I thought about buying Berkshire Hathaway stock. I didn't, because it would have taken my entire IRA ($2000) to buy one share. But if I had, that 1 share would now be worth $150,000. My question is, would "don't spend principal" mean that I'm not allowed to spend any of that $148,000 gain? Some of it? all of it? none of it? In "some", how do you deternine how much?

If you can cover you expenses from SS, rent etc they act as your annuity

Only guaranteed income counts as annuity. Rental income does not, since it's not guaranteed. Same for dividends.

 

[nun]

What does "principal" mean? If your assets are cash, CDs, bonds, etc. then, sure, it does have a standard meaning. But "principal" is meaningless when applied to stocks & other equity or equity-like assets.

For me, LBYM (not spending principal) means only spending distributions from the portfolio, dividends, interest etc. It's not a law, but a guiding principle. The growth in the value of the stocks in the portfolio is a way that the dividends will keep up with inflation. If you own stocks that don't produce dividends and the return is only capital appreciation then you'd have to come up with an algorithm to take some of that appreciation as income. Maybe you'd define your principal as the starting value of the stocks multiplied by (1+ annual inflation) and take anything above that as income. I tend to own funds that throw off dividends so I'll take those as income and use any capital appreciation to keep up with inflation.

Only guaranteed income counts as annuity. Rental income does not, since it's not guaranteed. Same for dividends.

Rental income can be highly variable, but I'm confident that my rental income is secure as I only have to deal with a single renter, the apartment is in the ground floor of my house and I live in an area with many young professionals and graduate students. In 17 years of renting I've never had a vacancy and I'm mortgage free so I have lots of equity to fall back on.

 

[samclem]

Before anyone relying on drawing 4% panics, note this from the article:
Quote:
the authors also assumed that retirees will lose one percentage point in annual returns to investment fees.
Using low-cost funds and managing your own investments you can easily cut that 1% fee to 0.2%, allowing that 2.8% to become 3.6% - not far from the traditional withdrawal number. One more example that "cost matters".

Good catch! Every day I'm more convinced of the great debt I owe John Bogle. Maybe someone else would have decreased costs for "the masses" as he did--but they didn't.

 

[Original Wally]

To me, that's an extremely restrictive definition of LBYM. There is absolutely nothing wrong with spending down principal over one's lifetime. You just can't be that aggressive about it so you don't go to zero while still alive.

+1

Our high level philosophy is that retirement is what we saved for. Seriously, we were married @ age 19, and our net worth depended on how full the gas tank was. We scrimped and saved and now we are enjoying the fruits of that effort. Draw down princ? Heck yes. In a systematic manner. We currently target age 90 for portfolio depletion. That would leave us with just a nice pension and SS. In todays dollars more than enough to live on. We suspect that by 90 DW will no longer want a BMW Z-4. We will most likely not be traipsing around the world. A cruise or two a year might be all we can handle.

I fully recognize that all of our plans could fly out the window - health disaster, a 1929 collaps, a WWII disaster, or whatever. If those biggies happen, I adjust. Even w*rk again. Oh well.

 

[walkinwood]

I don't understand what it means to not draw down principal when it is in equities.

Equities fluctuate in value - when they go down, does that mean you've drawn down on your principal? When they go up, does that mean you created more principal?

Or do you mean that you never want to have a portfolio worth less than its value at retirement?

 

[nun]

I don't understand what it means to not draw down principal when it is in equities.

Equities fluctuate in value - when they go down, does that mean you've drawn down on your principal? When they go up, does that mean you created more principal?

Or do you mean that you never want to have a portfolio worth less than its value at retirement?

I plan to have the value of my portfolio grow in retirement. If it's value was to decline I would not sell, I'd live off rent and SS and reduced dividend amounts. I'd only spend my cash buffer and sell equities if those income streams were not sufficient. Here is how I think of principal in the context of my portfolio

For me, LBYM (not spending principal) means only spending distributions from the portfolio, dividends, interest etc. It's not a law, but a guiding principle. The growth in the value of the stocks in the portfolio is a way that the dividends will keep up with inflation. If you own stocks that don't produce dividends and the return is only capital appreciation then you'd have to come up with an algorithm to take some of that appreciation as income. Maybe you'd define your principal as the starting value of the stocks multiplied by (1+ annual inflation) and take anything above that as income. I tend to own funds that throw off dividends so I'll take those as income and use any capital appreciation to keep up with inflation.

 

[RonBoyd]

If it's value was to decline I would not sell, I'd live off rent and SS and reduced dividend amounts.

And if the value increased? What would you do with all that excess earnings? Why retire at all if your goal is to "sock away" a vast fortune... for the benefit of select relatives?

 

[nun]

And if the value increased? What would you do with all that excess earnings? Why retire at all if your goal is to "sock away" a vast fortune... for the benefit of select relatives?

I'd reinvest the excess as I always have. I don't see a reason to change in retirement, as I said before I think it's actually more important to save in retirement because you don't have a wage and are relying on your portfolio. I want to retire so I can concentrate on things other than work; bikes, reading, beer, theater, friends. My goal isn't to amass a big stash, but that will probably be the result given the way I like to live my life.

I'm content with my lifestyle and don't need to spend money to enjoy myself. My question would be "why not pass on money to another generation" and why spend it on things like cruises and expensive hotels when I'm happier riding my bike in Iceland or across America and staying in hostels. Maybe when I'm 70 I'll swap the bike for a car. I have no children so my nieces are the next generation, they work hard and have their own kids now. It would make me happy to help them and their families towards financial independence.

 

[RonBoyd]

I want to retire so I can concentrate on things other than work; bikes, reading, beer, theater, friends. ... and why spend it on things like cruises and expensive hotels...

Hmmmmm. Seems like the same thing to me.

Maybe when I'm 70 ...

That's gonna happen much sooner then I believe you realize.

I have no children so my nieces are the next generation, they work hard and have their own kids now. It would make me happy to help them and their families towards financial independence.

Bless you. <truly>

 

[foxfirev5]

I am slowly learning the total return approach to my investments. My old German upbringing would never allow me to touch the principal. However I'm beginning to grasp the concept of the total return being the real total picture.

 

[Original Wally]

I'm content with my lifestyle and don't need to spend money to enjoy myself.

nun - What's right for you is right for you. What's right for me is right for me. This is not a case where there are indeed absolute right vs. wrong. Like child molesters. Or cauliflower. This is a case of personal choice. I can no more decide for you than you can decide for anyone else what is right. Go forth and enjoy. You have worked for it, do it your way.

 

[Stanley]

The "bottom line" from the above link: Before anyone relying on drawing 4% panics, note this from the article:
Using low-cost funds and managing your own investments you can easily cut that 1% fee to 0.2%, allowing that 2.8% to become 3.6% - not far from the traditional withdrawal number. One more example that "cost matters".

Thank you for reminding us of that little factoid. You have proven your worth to this community and I honor you. REWAHOO

 

[REWahoo]

Stanley, I simply managed to see it before a dozen or two others had a chance to point it out. Lots of folks on this board know the devil is in the details and aren't shy about pointing out some of the interesting facts found when reading beyond the headlines.

 

[Koolau]

+1. LBYM is the mantra when you're working, why does it go out of the window when you retire? My plan is to live off rent, SS and some of the income my portfolio produces. I expect my portfolio to increase in retirement. People will say I'm leaving a lot on the table, but I don't need to spend money on useless cr@p and I'll be able to live just the same as I do now as a wage earner. My estate will go to my nieces so they'll be comfortable. One of them will probably spend it all, the other two will save it like I've done and pass it on to their children. Doing that for a few generations is a way for families to become wealthy. All this 4% rule stuff and spending down of principal is a conspiracy to keep future generations beholden to "The Man". If we truly value financial independence why not pass some of it on to our heirs.

nun, as others have suggested, your plan sounds good for you.

While I too struggle with spending principal, I don't plan to (and have not) LBYM to the same extent as when I was in the accumulation phase. Now that I've ER'd, I have loosened the purse strings appreciably. In fact, I now spend more than I used to earn back in the day. It was part of the plan and I'm trying to follow the plan. I still consider that we LBYM in that we don't spend 4%. We don't buy lots of stuff, but we do (and plan to) live "well" in the last major chapter of our lives. We may (or may not) leave a significant amount behind at our "final retirement" (hope that one's not TOO early, heh, heh). Mostly our remainder goes to the charities that we have supported throughout our w*rking lives and now in our ER years. The kids got good educations and are all independent. If we can, we'll help them from time to time before we depart this temporal plane. We feel no obligation to leave them "well off" when we die. We did our part up front on that score.

Living as frugally in ER as when w*rking did not appeal to us at all. ER was less important to us than "the plan". ER was a secondary goal which we believed we could achieve - but not at the cost of "the plan". We believe we have now achieved both.

I'm certain we all have different view points on the subject and one is no more "right" than another - assuming we're all flexible enough to adjust for the unforeseen. YMMV

 

[obgyn65]

I believe that a majority of true LBYMers do not plan to spend their principal. I am one of them however, I am prepared to spend part of the principal during retirement only if necessary.

For me, LBYM (not spending principal) means only spending distributions from the portfolio, dividends, interest etc. It's not a law, but a guiding principle.

 

[Midpack]

I believe that a majority of true LBYMers do not plan to spend their principal. I am one of them however, I am prepared to spend part of the principal during retirement if necessary.

I don't know, but I'd guess a majority of the (mostly LBYM) crowd here do plan to spend down principal if necessary. If markets are generous, they won't have to, but they don't plan on placing a priority on protecting principal at least when they get older. You probably read through the recent thread where many members declared their intentions RE: principal http://www.early-retirement.org/forums/f28/preserve-principal-or-draw-it-down-64992.html. I didn't bother to tally to see where the majority stand.

 

[rayvt]

We thought long and hard before we bought the BMW Z4. The dealer wanted more for a 3 year old model that just came off a lease than we had paid for our NEW Toyota RAV4.
One day it struck me: Somebody in the family was going to be buying a sexy little sports car with my money. The only question was if it was going to be me or the kids.

 

[nun]

I believe that a majority of true LBYMers do not plan to spend their principal. I am one of them however, I am prepared to spend part of the principal during retirement only if necessary.

I'd go along with that. Emergencies happen. My "not spending principal" plan can be criticized because I've taken money that many would have saved while working and used it to pay off the mortgage on my home and a rental property. I've also spent money to buy voluntary credits in the UK social security system. Those income streams, along with US SS, will cover all my expenses post 66. My ability to save post retirement has been funded by pre-retirement spending.

 

[HFWR]

In my case, spending down of principal will be necessary. And, in reality, it's not different than purchasing an <ack> annuity, aside from the "guarantee" an annuity provides.

The yield of my portfolio would not be enough for me to retire any time soon, which is unacceptable! But using 4% or thereabouts, plus SS, plus a small pension,will provide enough for me to live about the same lifestyle as now. And my bare-bones budget is quite a bit lower than my projected income from the aforementioned three-legged stool, so there is some fudge factor in there for "bad" years, and a little extra for some travel or toys and such.

I'm hopeful that there will be some, maybe a lot, to leave to my son, but that's not a primary concern.

As an aside, I have highly subsidized health insurance from a former employer, without which I would likely not be able to retire before Medicare, and also pay for a LTC policy.

I'm reasonably comfortable with this "plan", and, quite frankly, it's all I have...