FireCalc Dips in Net Worth - Anyone Scared?

[Lsbcal]

A lot of good points about not getting too hung up on FireCalc results. I'm very analytical compared to DW. She just wants to have a good time. I'm only about 8 years younger then when my parents died. Hopefully I'll avoid the ills that felled them but it keeps me remembering that life's not forever. That's why I've moved our spending levels to around 5% at this point. This will scale back as our son gets done with school and we take SS. Actually FireCalc gives this a 100% success rate but drawdowns could get scary -- in which case we'll just have to scale back a little and adjust.

 

[Spanky]

There are other tools (other than FireCalc) to determine success rate using other methods, e.g. Monte carlo. Check out other calculators from T.Rowe Price, Fidelity or Financial Engines.

 

[samclem]

Monte Carlo simulations are another tool in the kitbag, but they have drawbacks that should be understood. Some use data series in which the historical relationships between asset classes are not maintained. In addition, they (as far as I know) posit that each year is an independent event, without any relationship to the performance of asset classes in previous years of that run. Real assets don't perform like that for long periods.

FIRECalc uses the actual historic data and maintains the relationships between the asset classes and from one year to the next. It's not perfect, and the number of available "past histories" is far more limited than can be provided with a MC simulation, but if you believe these relationships are important then you may have more faith in FIRECalc's results than those of a MC simulation. At least it's important to understand the limits of each method.

Also, unless Financial Engines has changed in the last 2 years, it doesn't support simulations of yearly withdrawals. It allows simulations in the accumulation phase, then just tells you the likelihood that you'd meet your investing target with a particular asset mix. After that, it assumes you buy an annuity to carry you through retirement--no more Monte Carlo simulation.

 

[ERD50]

Amen! As a modeler (of something totally different), I think that often too much burden is put on Firecalc for any model to bear.

"All models are wrong; some models are useful" (G.E.P. Box, 1979).

W2R, I've used simulation models in my line of work too, and that quote was also the first thing we were taught in modeling class. However, I just don't think the quote is relevant to FireCalc. FireCalc isn't simulating anything, it is just reporting historical data. When you create a simulation model (generally to interpolate or extrapolate data that you cannot easily obtain), it is best to assume that your simulation model is wrong, that it does not account for every possible interaction, etc. But unless there are actual errors in the data entry, or errors in the calculations in FireCalc, I think we can 'trust' it to report history accurately.

Like the intro to FireCalc - the analogy is to reporting past temperature data for a region. It's just a report, not a simulation of the conditions that led to those temperatures.

FIRECalc: A different kind of retirement calculator

Now, when we take that historic range of outcomes, and try to apply it to the our future - at that point I guess you can say we are running a simulation. But FireCalc isn't doing it - we are. FireCalc was done at that point, and provided a historic baseline for us to use in our planning, as we see fit.

.... IMO, there is a bit of religious zeal going on re: Firecalc

see above - for me FireCalc is what it is. And it is just one data point to use in the FIRE decision. It can't tell me how long I will live, if I'm going to suffer some cataclysmic financial event, if my expenses will outpace historic inflation rates, if the future will be better/worse than history, etc, etc, etc. So it cannot give me an 'answer'.

That is one of the reasons I use a 100% success rate. I can't think of a single good reason to expect the future to have a distribution of outcomes that is more rosy than the past. As a general rule, as you collect more data (of any kind), it is reasonable to expect to see extremes added to the data set - right?

Plan for the worst, hope for the best?

Again, if those deep drawdown outcomes were outliers, it might be a bit easier for me to write them off as a low probability event. But the distributions of those deep drawdowns look pretty even, so there is a pretty good chance (historically) that we would have experienced a 'bad case' drawdown that is not much better than the 'worst case'.

A 4% SWR is hyper conservative unless you retire right in front of a major market downdraft ... If you could somehow "know" you have ten years for retirement before a major market downturn, your portfolio would grow so high that you could take the big hit and not run out of money.

2B, I know you provided more context for this later, but I wanted to comment on that statement that if we make it past the first few (10?) years without a problem we will be in good shape - I'm not so sure (but one might need to look at the squiggly lines or the spreadsheet data in more detail to check this). Take this scenario:

Default 4% withdraw rate, assume $40K spend, $1M portfolio for easy math. Now, lets just say that after 10 years, your buying power increased by 25% - you are doing well. But if you plug those numbers (same $40K spend, but now a $1.25M portfolio) in for the remaining 20 years, you could see a dip down to $480K - still losing over one-half of your original portfolio.

Now maybe those 'bad case' years only follow big bubbles, and you would be up by more than 25%? I don't know, that would take some more digging in the data. But if it's true, that tells me I may not want to raise my SWR just because my portfolio is growing - I may still have a bad patch ahead of me.

samclam made good points on Monte Carlo vs FireCalc historic analysis, IMO. I suspect that market cycles are not totally random, and that the historic cycles are probably a better guide to the range of outcomes we can expect. Inflation, market returns, fixed returns, etc are related in some ways, they are not totally independent variables, and I think the MC is treating them that way?

-ERD50

 

[donheff]

Default 4% withdraw rate, assume $40K spend, $1M portfolio for easy math. Now, lets just say that after 10 years, your buying power increased by 25% - you are doing well. But if you plug those numbers (same $40K spend, but now a $1.25M portfolio) in for the remaining 20 years, you could see a dip down to $480K - still losing over one-half of your original portfolio.

Now maybe those 'bad case' years only follow big bubbles, and you would be up by more than 25%? I don't know, that would take some more digging in the data. But if it's true, that tells me I may not want to raise my SWR just because my portfolio is growing - I may still have a bad patch ahead of me. (Emphasis added)

In a previous thread people talked about the possibility of recalculating the SWR after their portfolios grew. A few of us cautioned that you might just be chasing the "initial downturn." The discussion here of the high number of bad periods that crop up in the Firecalc runs just adds to that caution. Rather than raise your SWR after a huge runup maybe that would be the time to move a substantial portion of your portfolio to fixed income or (horrors) even an inflation adjusted SPIA to cover needs. Then you could aggressively F around with the rest.

 

[youbet]

the distributions of those deep drawdowns look pretty even, so there is a pretty good chance (historically) that we would have experienced a 'bad case' drawdown that is not much better than the 'worst case'.

It seems then that we are at a fork in the road in this discussion........

1. What to do now that the realization has set in that "success" in FireCalc includes "close calls." And, that "close calls" may cause some retirees to be unpleasantly stressed or to alter their lifestyles in undesirable ways, or both. How do we mentally cope with the concept of "close calls?"

2. How do you financially plan for RE (savings amount... AA... deferred or non-deferred... annuities... SS early or delayed... etc... ) and how do you manage the withdrawal phase to not only maximize survivability but also to minimuze mid-course dips or near zero terminal values?

 

[ERD50]

It seems then that we are at a fork in the road in this discussion........

1. What to do now that the realization has set in that "success" in FireCalc includes "close calls." And, that "close calls" may cause some retirees to be unpleasantly stressed or to alter their lifestyles in undesirable ways, or both. How do we mentally cope with the concept of "close calls?"

2. How do you financially plan for RE (savings amount... AA... deferred or non-deferred... annuities... SS early or delayed... etc... ) and how do you manage the withdrawal phase to not only maximize survivability but also to minimize mid-course dips or near zero terminal values?

Yes - the pragmatic part of all this, what to do about it? Well, they say 'forewarned is forearmed' - does that help? Hmmm, not really

But I think I have come to look at the following in new light:

A) I know a 50% dip from my start position would be an emotional issue for me. I'm going to look for methods that historically would keep me above that minimum. Hopefully well above.

B) I realize (again historically) that I would have had (guess-timating here) about a 50% chance of doing significantly better, and this may well be a non-issue. But I need to plan for the very real chance of a big drawdown.

C) To Investigate in more detail everything you outline in #2. But with the goal of reducing the drawdown (whenever it may occur), rather than looking at any 'average' numbers or focusing on the ending portfolio balance.

So that might include annuities, spending adjustments (I need to do more FireCalc runs on this - I think people may be over-estimating the effect of modest 'cutting on the dips'), early/delay SS and /or pensions, AA adjustments, and... that option which shall not be named.

So basically, all the things that have been discussed time and again here, but with the focus on that drawdown number. I'll probably be doing a matrix of FireCalc runs for myself, or general ones just to get the feel for the sensitivity of some of these factors on that drawdown. But I'm almost 10 years away from being able to take any SS - I'd like to discount my SS benefits and my pension, so those numbers get pretty foggy. So some of this is still a bit crystal-ball for me.

Probably the biggest 'actionable item' (geez, sounds like some of my old meetings on the job ) that I take away from this is - I'm not going to look at a short term portfolio increase and decide that I can up my spending. I'm going to look at that as something that can offset any future dips. Or, if I see some real 'quality of life' opportunity that I do want to spend that money on, I can weigh that against the 'comfort factor' of protection against dips. As some have suggested, maybe move any 'excess' to a 'safe money' - though, if that does not beat inflation, maybe it isn't 'safe'?

All things considered, it is a 'leap of faith' to retire, I'm just trying to make the best of that.


-ERD50

 

[Lsbcal]

It seems then that we are at a fork in the road in this discussion........
...
2. How do you financially plan for RE (savings amount... AA... deferred or non-deferred... annuities... SS early or delayed... etc... ) and how do you manage the withdrawal phase to not only maximize survivability but also to minimuze mid-course dips or near zero terminal values?

Yesterday I had a talk with DW and explained that if financial markets fell out of bed a few years in a row we'd have to cutback somewhat in spending. She got me to agree to go out to lunch today ... her idea of cutting back on spending . Still I'm going to repeat this idea until she's used to it -- she really is a good sport.

One somewhat concrete idea for avoiding inflationary periods is to load up on TIPS when they real rates are reasonably high and sell or switch to shorter maturity TIPS when real rates decline (like now). Doesn't solve the equity problem but perhaps helps to balance out a tad. It worked in this last downturn.

 

[clifp]

Lots of good thoughts on this thread.

I think we all agree that FIRECalc is great tool but it isn't foolproof. My number one learning after being retired for 8 years and figuring I still have 40 more years left, is that you can't put your retirement finances on autopilot (I guess if you put everything in annuity you can..).

I have yet to hear of an early retiree who follows all of the firecalc rule. I.e. they dutifully has put 75% of their money in stock index fund and 25% in bonds and cash. Each year they rebalance, check the inflation rate and dutifully withdraw their inflation adjusted money which they stick into a money market. Repeat each year.

I suspect all of us deviate for the FIREcalc standard in many ways. People who manage to retired early instead of being pushed out the door at 65, generally have a lot common sense. Common sense says that if your future income looks shaky you tighten the belt. On the flip side if you are assets and income grow much faster than expense, live a little you can't take it with you.

The one advantage of retiring right before a bear market is your faith is tested early.

 

[yakers]

The one advantage of retiring right before a bear market is your faith is tested early.

Nice to know about the advantages

Looks like that will be my issue, retiring in three weeks, right into a recession. I can hope it actually started in Oct 07 and has bottomed now and will be on the way up (is there a hopeful emoticon to insert here?)

But I do not have to touch savings for 2008 and planned to sell one stock in 2009. May have to revisit that depending on how well the stocks and Wellesley/target retirement accounts play out.

 

[cute fuzzy bunny]

The one advantage of retiring right before a bear market is your faith is tested early.

That sure was fun, wasnt it?

It was a pretty good time to be heavily in REITS, Wellesley, OAKBX and DODBX though. I guess it taught me that it was okay to cut expenses a little bit and just take hits from the dividend pipe.

Of course, back then I also thought I was going back to work sometime in 2002. I'd taken the company RIF severance deal "one years pay, full TCOMP benefits, and a free computer", figuring to have my years paid vacation, including the bonuses that regular employees would never get, and the free home pc that none of the regular employees got either, then go back a year later, get my old job back and all my stock options reset from $45-75 to $12.

Oh well, the best laid plans of mice and men...

Too bad too, those stock options would have been worth some good money right now...

 

[bbbamI]

These discussions have been wonderful, and then I realized, dang...I always thought the tough part was making and saving money.

 

[megacorp-firee]

see above - for me FireCalc is what it is. And it is just one data point to use in the FIRE decision. It can't tell me how long I will live, if I'm going to suffer some cataclysmic financial event, if my expenses will outpace historic inflation rates, if the future will be better/worse than history, etc, etc, etc. So it cannot give me an 'answer'.

That is one of the reasons I use a 100% success rate. I can't think of a single good reason to expect the future to have a distribution of outcomes that is more rosy than the past. As a general rule, as you collect more data (of any kind), it is reasonable to expect to see extremes added to the data set - right?

Plan for the worst, hope for the best?

Again, if those deep drawdown outcomes were outliers, it might be a bit easier for me to write them off as a low probability event. But the distributions of those deep drawdowns look pretty even, so there is a pretty good chance (historically) that we would have experienced a 'bad case' drawdown that is not much better than the 'worst case'.
-ERD50

hmmmm... I can't really tell, ... did you just make the point?
If you did ... amen brother.

However, that was not the point I was trying to make ... it was one of using (or rather NOT USING) FIRECALC as THE (or THE major) factor in deciding whether or not you are ready for retirement.

Apologies in advance if I have mis-read your post.

 

[cute fuzzy bunny]

Seems to me that everyone has to go through the "calculator phase" either early in their planning to ER or shortly thereafter. I'd never heard of withdrawal rates when I retired, I just took a common sense approach that it seemed if I didnt spend too much and made a decent average return the back of the envelope calculation said I'd at least make it into my 70's without running out of money. Good enough.

Later when I found this site, I went through weeks of exhaustive calculations to prove pretty much the same thing I'd determined using the basic pen and paper method.

Lots of things could influence the future looking different from the past. For a lot of the historic data that firecalc uses, the US was an emerging and developing market. The data series starts right at the end of the civil war, which was pretty much a serious low point, which makes the data from there to the 1920's look pretty optimistic. The prior data contains many periods of deflation which we probably wont see much of. Inflation may be under better control than it was in the 60's-90's; then again, maybe not. The lack of direct information on investments until the 90's made for many opportunities for people to make money by leveraging the lack of knowledge and/or obscurity. Perhaps those exotic investments like commodities and real estate trusts will work differently in the future. Perhaps automation will continue to improve productivity, maybe it wont.

My back of the envelope calc said I oughta be able to make an average of 7-8% a year. 2-3% off to inflation and another percent or two off to taxes. Manage my own investments to make the costs <.2% instead of 1-2%. Spend the rest in good years, spend less in bad years. Rinse and repeat.

 

[Lsbcal]

A) I know a 50% dip from my start position would be an emotional issue for me. I'm going to look for methods that historically would keep me above that minimum. Hopefully well above.

I've started to look at FIRECalc for hints on how to reduce drawdowns to a tolerable level. One big improvement that should come as no surprise is to add small value and large value to your portfolio. For instance, the following gave a much better result for my inputs using the "mixed portfolio" option:
small = 5
small_value =5
sp500 = 20
US_large_value = 20
1mo_treasury = 50

I was comparing that to a total stock market and 5yr treasury mix which was much worse. I'd view the 1mo_treasury as a stand in for TIPS + short term bonds strategy. I had to use the old FIRECalc version as the new version3 seems to have a bug in the spreadsheet (I've reported it).

I'm sure this has been done a lot before by others. Anyone have a more optimal set of numbers for the mixed portfolio? It has to be realistic as nobody's going to go with 100% small value for instance.

 

[haha]

I'm sure this has been done a lot before by others. Anyone have a more optimal set of numbers for the mixed portfolio? It has to be realistic as nobody's going to go with 100% small value for instance.

Trying to optimize the subcategories of equities likely does not make sense.

Diversification makes sense; being sure you don't take on much credit risk or interest rate risk with your fixed component makes sense. But going much beyond this is data mining and in my opinion not likely to be helpful going forward. We would need “out of run” price sequences to test any mix that we abstract from the historical record; and these out of run sequences do not exist.

The main value from this drawdown exercise is realizing that not all successful runs are created equal. Also I believe ERD50 has suggested that our ace-in-the-hole strategy of cutting back during stressful times may not work as well in reality as it seems that it should.

Commodity traders face the drawdown problem almost every day. And more than many of us may realize, total return asset allocating investing is a lot like commodity trading, in that we must look to market price improvement for cash flow to meet living expenses. (If we are living from our investments.) There just isn't enough dividend and interest income to do otherwise.

Ha

 

[twaddle]

I'm sure this has been done a lot before by others. Anyone have a more optimal set of numbers for the mixed portfolio? It has to be realistic as nobody's going to go with 100% small value for instance.

Have you ever been over to raddr's board? Raddr was apparently not a big fan of the 75/25 mix suggested by Trinity and FIREcalc.

So, he's been monitoring the fate of the poor ER who took FIREcalc's advice in the year 2000:

Raddr's Early Retirement and Financial Strategy Board :: View topic - Hypothetical Y2K retiree update

And he also has some MPT-derived studies on SWRs:

SWR analysis is difficult because of limited data availability

have long been interested in using commodity futures as an asset class but until recently there has been no simple way to implement a

 

[Lsbcal]

Have you ever been over to raddr's board? Raddr was apparently not a big fan of the 75/25 mix suggested by Trinity and FIREcalc.

Took a peak at Raddr link. That 75/25 was SP500/commercial paper. Nothing I'd consider.

The value tilt portfolio that I mentioned above is closer to the type of portfolio that people who like the French-Fama stuff talk about (ad nauseum on the Bogleheads site). There has been a lot of academic studies that tend to support this approach -- but I'm no expert. I agree with Ha that if munged too much FIRECalc can become a data mining tool. One needs to take this with a grain of salt. But perhaps having some small and large value allocations makes sense. Putting some of this in internationals hopefully helps in diversifying further though FIRECalc doesn't offer this data set.

Looking at this stuff from a drawdown perspective should help us to weather some storms.

 

[haha]

Have you ever been over to raddr's board? Raddr was apparently not a big fan of the 75/25 mix suggested by Trinity and FIREcalc.

So, he's been monitoring the fate of the poor ER who took FIREcalc's advice in the year 2000:

Raddr's Early Retirement and Financial Strategy Board :: View topic - Hypothetical Y2K retiree update

Very interesting, at least from a social psychology point of view. It seems to me that the posters are converging onto saying, "Yeah but be sure to invest in the right asset classes."

I too believe that this is the only strategy that can work over a long time. You can't know what will go up, but you can know what has already gone up so much that it likely has shot its wad.

Maybe not exactly market timing, but at least sector timing.

I plan to stay awake and at the wheel; no autopilot for me.

Ha

 

[unclemick]

Very interesting, at least from a social psychology point of view. It seems to me that the posters are converging onto saying, "Yeah but be sure to invest in the right asset classes."

I too believe that this is the only strategy that can work over a long time. You can't know what will go up, but you can know what has already gone up so much that it likely has shot its wad.

Maybe not exactly market timing, but at least sector timing.

I plan to stay awake and at the wheel; no autopilot for me.

Ha

In spite of that fact that the movie was biased toward Darwin I loved the rousing opening with 'gimme that old time religion.'

Some of us bet both sides:

Vanguard Target Retirement 2015 - current yield 3.07% plus a few Norwegian widow stocks.

And of course pssst Wellesley - current yield 4.18%



You know I spent forty years looking back on portfolio's that beat the pants off what I owned any given year. I'm finally pretty much satisfied with enough.

heh heh heh - yeah yeah - just one Jimmy Buffett stock to put me in Margaritaville before I croak - it's a hormone thing.

 

[yakers]

Mostly Autopilot For Me

I plan to stay awake and at the wheel; no autopilot for me.

Ha

So you're no big fan of target retirement and balanced funds?
Most of our assets are in my target retirement type fund (TSP), DW's IRA is VG Wellesley and our Roth is in VG Asset Allocation. Only a few individual stocks to keep me awake (shock to the system sometimes) Tip the hat to unclemick.

So its mostly autopilot for me. It will be interesting to see how it all works out. Autopilot works for me as otherwise I would analyze things to death, second guess myself and have more frequent coronary events.

 

[twaddle]

Looking at this stuff from a drawdown perspective should help us to weather some storms.

I've talked about Larry Swedroe's approach a couple times before. 70% bonds to preserve wealth and lower volatility. Plus 30% of the most volatile uncorrelated assets you can find.

I backtested the following:

35% TIPS
35% 5-year treasuries
10% ScV
10% Intl Value
5% EM
5% CCF

And I got:

CAGR = 10.5% nominal, 5.6% real
SD = 6.26%
Max Drawdown = 7.5% w/o rebalancing, and 2.4% w/ rebalancing

Not a recommendation, but just one alternative approach if you don't have Ha's skills in cigar-butt hunting.

 

[haha]

I've talked about Larry Swedroe's approach a couple times before. 70% bonds to preserve wealth and lower volatility. Plus 30% of the most volatile uncorrelated assets you can find.

I backtested the following:

35% TIPS
35% 5-year treasuries
10% ScV
10% Intl Value
5% EM
5% CCF

And I got:

CAGR = 10.5% nominal, 5.6% real
SD = 6.26%
Max Drawdown = 7.5% w/o rebalancing, and 2.4% w/ rebalancing

Not a recommendation, but just one alternative approach if you don't have Ha's skills in cigar-butt hunting.

Obviously this is an excellent result. Seeing that 70% is treasuries and TIPS, one might expect these results to be sensitive to available yields. Anything you can say about this?

Ha

 

[twaddle]

Obviously this is an excellent result. Seeing that 70% is treasuries and TIPS, one might expect these results to be sensitive to available yields. Anything you can say about this?

Yes. Caveat Emptor.

 

[haha]

Yes. Caveat Emptor.

I do not argue you that.

Ha