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i-orp and assumptions
Old 07-11-2016, 08:34 PM   #1
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i-orp and assumptions

I have been running Firecalc rather often (it is always happy), but wanted to do i-orp because I could see different return possibilities. I ran it with 0% return and 2% return. I also cut back on part-time income expectations to 0-15K due to a sudden serious health issue (spouse can do at least 15K, and I don't plan to quit entirely, just cut back by 2/3). Is assuming 0-2% a conservative enough average return assumption?
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Old 07-15-2016, 10:57 AM   #2
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Originally Posted by palomalou View Post
I have been running Firecalc rather often (it is always happy), but wanted to do i-orp because I could see different return possibilities. I ran it with 0% return and 2% return. I also cut back on part-time income expectations to 0-15K due to a sudden serious health issue (spouse can do at least 15K, and I don't plan to quit entirely, just cut back by 2/3). Is assuming 0-2% a conservative enough average return assumption?
I assume that you are talking about a 2% (or 0%) annual rate of return on your retirement savings. If you are, then 2% is beyond conservative and down right pessimistic. The Fed is targeting an inflation rate of 2.5% so a 2% rate of return is actually an annual savings loss of .5% (or 2.5% loss for a 0% return). If we are talking a 30 year retirement here then, with savings split across stocks and bonds in the conventional manner, studies show that a 5% or higher annual rate of return is not unreasonable.

ORP, at least, is a guideline generator and not an accounting program. It's guidelines are meant to give a full picture of retirement but decisions are relevant only to the forthcoming year. ORP is meant to be run at least annually to make mid course investment corrections.

Monte Carlo calculators, for the most part, assume asset returns as represented by some variation of the S&P 500. It is a rare financial advisor indeed that advocates investing all of your retirement savings in an S&P500 index fund. Most advisors will go for a more conservative, less volatile, strategy of investing in high dividend stocks and conservative bonds with portfolio returns well north of 2%.

Are you asking the right question? You seem to be asking "What is the likely hood that my savings will run out before I do?" A more practical problem statement is "How do I manage my retirement assets so as to maximize my after-tax, retirement spending?" You have lots of decisions to make up front, (e.g. when do you retire, start Soc Sec, stop working, etc.) and options during retirement (namely your retirement saving investment strategy and the scheduling of retirement saving distributions so as to minimize taxes). You make the upfront decisions. ORP offers guidance for the mid course adjustments.

If you are eligible for Social Security benefits then you have lifetime annuity income that provides longevity risk insurance, which makes your overall portfolio more conservative still.

Personally, I plan my spending so that I can take that occasional cruise rather living an austere lifestyle that benefits my heirs more than it does me. I plan to have no assets at the end of my planning horizon. (My last check, to the undertaker, will bounce.)
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Old 07-15-2016, 09:56 PM   #3
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Is 0-2% conservative? Yes.

I'm not familiar w I-Orp, but other MC simulators I'm familiar with use historical data on returns and volatility.

I've got some money with a full service broker, mostly A share mutual funds and stocks where I have large gains that I don't want to realize. The broker just ran a MC on me that used 9% stock and 5% bond returns. When asked how he could use 5% on bonds when the 30 year Bond is about 2.25%, he agreed that was optimistic but said he could not override his firms capital market assumptions. To me, the report wasn't worth the paper it was printed on.

Returns are only part of the story in the withdrawal stage. I'm sure you're familiar with the sequence of return stories that show high average returns but you run out of money because your bad returns happen early.

I'd like to be able to run something with higher than average volatility, and 5% stock and 3% bond returns to see how I'd do, but don't know how to do it.

Any suggestions?
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Old 07-15-2016, 10:26 PM   #4
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I use 2.5% real for my planning and I think that is quite conservative. The historical return for a 60/40 AA is 8.7% (1926-2015) and inflation was about 3% so that would be 5.7% real and I haircut it to 2.5%. YMMV but 0-2% real is ultraconservative IMO.
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Old 07-16-2016, 01:13 PM   #5
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Is 0-2% conservative? Yes.



I'd like to be able to run something with higher than average volatility, and 5% stock and 3% bond returns to see how I'd do, but don't know how to do it.

Any suggestions?
Since this thread is about ORP; ORP allows you to set your own equity and bond rates of returns. The higher the return the more volatile the randomly generated values, i.e. the wider the standard deviation.
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Old 07-16-2016, 02:57 PM   #6
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Since this thread is about ORP; ORP allows you to set your own equity and bond rates of returns. The higher the return the more volatile the randomly generated values, i.e. the wider the standard deviation.
Can you set it for lower equity returns but HIGHER SD?
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Old 07-17-2016, 08:05 AM   #7
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Can you set it for lower equity returns but HIGHER SD?
Sorry, ORP doesn't go that far. ORP assumes that high return assets are more volatile (stocks) and low return assets have low volatility (bonds). The assumption is that investing in a highly volatile but low return asset is not reasonable in the real world. Do you have a counter example?
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Old 07-17-2016, 12:04 PM   #8
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https://next.ft.com/content/12df0d5c...f-ea66e967dd44

This article does a better job explaining than I could.

Basically says, expect lower equity returns with occasional bouts of extreme volatility.
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Old 07-18-2016, 10:13 AM   #9
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https://next.ft.com/content/12df0d5c...f-ea66e967dd44

This article does a better job explaining than I could.

Basically says, expect lower equity returns with occasional bouts of extreme volatility.
This is an interesting column, although I argue that it does not necessarily apply to the average ORP user:

  1. The column talks mostly of high wealth investors. ORP users rarely have retirement saving beyond 3 million dollars. Frankly, when savings get beyond 2 million dollars then we are in the area of estate planning rather than tax efficient IRA withdrawal schedules. High wealth retirees use financial advisors and pay little attention to Internet modeling applications.
  2. Retires do not, in most cases, invest in the market as an index but rather use conservative investment strategies to achieve a high alpha/low beta portfolio; strategies such as buckets, glide paths, and investing in stable, high divided equities.
  3. Most ORP users are more interested in savings distribution schedules for maximizing spending rather than predicting the probability of plan failure.
  4. The column does not actually say "extreme volatility" but rather predicts frequent volatility. I take that to mean that volatility will be more or less along historical lines, just more often.
I'll put this on the ORP wish list but assign it a lower priority. I await scholarly papers on the topic before I start tearing into code.

A you aware of other Internet, Monte Carlo simulators that implement this feature?

Thanks for the link, it is a good read.
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