indexing SWR to inflation or to valuation

[perinova]

There are too compete systems mentioned in the literature. SHould I even say a debate?

Since the need of the retiree doesn't change with valuation and since indexing for valuation owould remove excessive funds that can otherwise still provide higher income later, my own conlusions and calculations leads me to plan for a SWR that would be indexed to inflation at all time but in bad times.
By taking a constant SWR with inflation it means a lower SWR when the portfolio is high. What I also don't like about indexing to valuation is that it is in effect resetting my plan every year which I do not want to do. The SWR also seem to be lower in that case (see firecalc answers).

However I am planning to once in a while maybe every 7 years (?) or so reconsider the plan based on the current economic cycles. Sometimes portfolio valuation is changing becasue the economy itsefl is and it muight be a good idea to reconsider my own lifestyle. What I am talking about here is something more fundamental than portfolio valuation (wall street) but a real change in the economy (main street).
If my portfolio is flying high and the S&P P/E and P/B are nominal. I could reset my SWR to the current portfolio
If my portfolio is low and the S&P P/E and P/B are nominal. Well the society is probably tightning belt and I might to do the same because my portfolio won't be higher any time soon.

 

[wabmester]

my own conlusions and calculations leads me to plan for a SWR that would be indexed to inflation at all time but in bad times.

Well, the SWR isn't really meant to be a spending plan. But think of your spending as having two components: discretionary and non-discretionary. In bad times, you don't have much choice on the non-discretionary component. If inflation goes up, your non-discretionary spending will go up too. But you have lots of control over discretionary spending.

So, when planning for ER, make sure your discretionary budget is padded so you'll have lots of wiggle room.

 

[audreyh1]

Wab gave a great answer!!

I don't plan to use an inflation-indexed SWR either. I'm more comfortable with a constant % drawdown idea even if it means a lot of variability in annual withdrawals. After a bad year I take out less total dollars. After a good year, I can take out more if I like (but in reality, I would probably withdraw less that the constant percent because I don't want my spending habits to creep upwards).

I count on my portfolio to keep up with inflation over the long run.

Audrey

 

[samclem]

I need to take withdrawals from my portfolio in such a way that it lasts for the lifetime of my spouse and I. The only way to assure that happens is to make withdrawals based on the value of the portfolio. If inflation goes through the roof and my investments don't, then I can't just ignore it--I'd have to take reduced payouts or risk running out of money. The sooner I adjust, the better (and seven years, IMO, is too long).

IMO, it makes good sense to decouple your withdrawal strategy entirely from inflation. Your portfolio should be designed to maintain ground, as well as possible, in an inflationary environment (equities do okay in a moderate inflationary environment, TIPS and commodities might do better if things are severe). Then just take your withdrawals as a % of your existing portfolio value each year. If your portfolio isn't keeping up, you'll be trading away your future abilty to mainatin your lifestyle if you match inflation without regard to the portfolio's value.

The few folks with a COLA'd pension might need less inflaton protection, others will need to include it more extensively in their portfolios.

 

[perinova]

Thank you for your inputs

What I am afraid of with the SWR indexed to current portforlio value, is to take off a high amount in a good year. spend it and have a permanent correction a year later.
SWR indexed to inflation I understand the danger of withdrawing too much in high inflation time.

I have been thinking of a solution for a while: always withdraw the minimum of x%current or x%initial.

Of course as wab said SWR is not a spending plan. So I guess this needs to be indexed to personal inflation not cpi. But I mean it is only a guideline anyway. I am sure that there will be bumps on the road (car going out of service ahead of schedule... well I hope not ).

 

[youbet]

So, when planning for ER, make sure your discretionary budget is padded so you'll have lots of wiggle room.

I find the huge variability from person to person regarding SWR and retirement budget levels facinating!  No one is right.  No one is wrong.  And we won't know the answer until the next few decades pass by!

Will the folks who believe they can live on a tiny percentage of their current budget and plan to take 6% (or  more) inflation adjusted withdrawals be the winners because they probably worked a much shorter time?  Or will those planning to withdraw 4% or less with optional inflation adjustments and highly padded budgets win out because they worked longer to get there but didn't run out of money and start shopping in the pet food aisle?  And, of course, there is everyone in the middle of the two extremes I just gave.........

I don't disagree with anyone.  It's all a matter of  the type and amount of risk you are most comfortable with.  The risk of saving too long/withdrawing too little and leaving money on the table or the risk of not saving enough/withdrawing too much and running out of money.

Good luck to all!

 

[perinova]

What I like about this forum is being able to listen to many opinions. It helps me forging my own.
RE=f(Money,Lifestyle,Time)
Money is only one side of the RE equation the other ones are Time and Lifestyle.

They can be equally important or not depending on the coefficients you want to put there.

Thank you all for your inputs.

 

[brewer12345]

I've got some time to consider it (extensively), but I think that when the time comes I will likely start out with a conservative % withdrawal and some fat in the budget. Mindful of the fact that firecalc, et al. are meant to show how well you do in the worst possible environment, I plan on re-evaluating my withdrawals every 3 to 5 years, assuming things have gone well.

 

[Rich_by_the_Bay]

I've got some time to consider it (extensively), but I think that when the time comes I will likely start out with a conservative % withdrawal and some fat in the budget. Mindful of the fact that firecalc, et al. are meant to show how well you do in the worst possible environment, I plan on re-evaluating my withdrawals every 3 to 5 years, assuming things have gone well.

That's pretty much where I am: maybe throw in ERBob's 95% rule (never take less than .95 of last year's draw), and reset the 4% SWR every 5 years or so. Both of these have been modeled (though no necessarily together), and seem prudent.

That, and start out buying an immediate fixed annuity with 25% of my initial assets <ducking>.

 

[audreyh1]

What I am afraid of with the SWR indexed to current portforlio value, is to take off a high amount in a good year. spend it and have a permanent correction a year later.

Ahhh - but you see you took the extra amount out AFTER a good year - so if the market was having a major bull year - especially if it had some kind of blow-off top like 1999, you probably did a good thing by taking advantage of the excess.

If the portfolio has a correction the next year - the dollars you withdrew would have corrected too if you hadn't withdrawn them.

What do you mean by "permanent correction"?  I think a lot of people get caught up in this idea that a portfolio takes a major hit and don't see that there is a subsequent recovery - even if it takes a while.  That's why we use tools like firecalc -  to see how portfolio survival works even when confronted by a series of bad years.

The best advice is to have your annual budget very well padded so that you can use a reasonable SWR and be able to tighten the belt during a couple of bad years if that helps you feel more financially secure. I know that I feel better knowing I can cut back if I so choose.

Audrey

 

[REWahoo]

...That, and start out buying an immediate fixed annuity with 25% of my initial assets <ducking>.

Hmmmmm. Rich, if you will tell me which of the following apply to you, then I will be more than happy to support your decision to buy an IA.

Yes, there are situations when an annuity or even a financial advisor (lightning will stirke me at any moment) might make sense for an individual who lacks financial expertise and/or emotional capability and lacks the ability to develop those skills.

If such an individual does post here and if I believe they do not posess or cannot develop the expertise to manage their retirement funds or emotions, I will not hesitate to suggest they consider an annuity.

 

[perinova]

permanent correction = Japan 1989 scenario.
If I retired in Japan in 1989 my portfolio would still be less than half. And if I took (comparatively) a lot of money out that year then I reduced my budget for ever!

I know series of bad years and all. I just know that the 20th century is the AMERICAN century. So we are looking at historical returns of a country who had THE bull run of the modern world. It is NOT (It won't be) like that everywhere all the time.
I am not gloom and doom. The next 50 years or 100 years might be great for what I know. I am just planning for the worst (and expecting the best) like all of us.

yes padding=good!!!
I didn't taste cat food and I am planning not to.

 

[jdw_fire]

Hmmmmm.  Rich, if you will tell me which of the following apply to you, then I will be more than happy to support your decision to buy an IA.

REW, I don't think your response to my post on another thread (about using inflation protected immediate annuities in your retirement) describes the entire set of persons that would use an annuity to ensure (or maybe its insure) their inflation adjusted retirement.

 

[REWahoo]

REW, I don't think your response to my post on another thread (about using inflation protected immediate annuities in your retirement) describes the entire set of persons that would use an annuity to ensure (or maybe its insure) their inflation adjusted retirement.

OK. I don't agree, but I understand. 8)

 

[audreyh1]

permanent correction = Japan 1989 scenario.
If I retired in Japan in 1989 my portfolio would still be less than half. And if I took (comparatively) a lot of money out that year then I reduced my budget for ever!

So you would have retired with a portfolio 100% in NIKKEI? No diversification at all?

Yes, also if you had a portfolio in 100% NASDAQ index in 2000, you would still be less than half. But people don't do that for this very reason!!!

Notice that NASDAQ went from 2000 in 1998 to 5000 in early 2000. Someone following an asset allocation plan of 50% stocks/50% cash/bonds would hopefully be rebalancing all the way up. Taking profits from the equity side and building up the cash/bonds part of the portfolio.

Having an appropriate portfolio mix for your risk tolerance is also a major part of the plan.

Audrey

 

[donheff]

After a good year, I can take out more if I like (but in reality, I would probably withdraw less that the constant percent because I don't want my spending habits to creep upwards).

The way I figured the 95% rule was in a bad year, cut your take and your spending to less than last year. In a good year increase your take but not neccessarily your spending to 4%. If I had a run of good years, I would expect to invest some of my "take" in a mad money account I could tap after a run of 95% took me below my comfort level.

 

[Nords]

Ya know, four years into an ER that started with the pits of July & Oct 2002, we still don't raise our spending after a good year.

We pay the bills. We feed a teenager. We maintain & improve the house. We entertain ourselves, pay for tae kwon do, hang out with family, go on vacation, and have the occasional "What are you saving it for?!?" $100 splurge.

But when a good year draws to its close, I don't go to my spouse and say "Hey, honey, we have to raise our spending $8324.65 next year. Now get out there and do your share!" I don't sell off the profits of the retirement portfolio and put more cash into a money market fund.

Instead I project the next years' expenses, make sure we have two years' expenses in cash, look at the rebalancing situation, and debate whether to take dividends in cash or just reinvest them. Lately, even with spouse working for free, it's been reinvesting.

I think the spending problem is that I'm "spending too much" time surfing...