Original version of this post was a reply in a Monte-Carlo thread but then I thought it deserves its own thread since it deals more with relying on US history and FIRECalc than Monte-Calro simulation. I also padded it with more ideas...
I had this thought for a while as I was reading through various posts on this forum. People often express an opinion that starting with FIRECalc is a good thing and that while FIRECalc is not perfect, is goes through all the "bad" times and therefore should give one a sense of security or at least good starting point. Please note that I think the world of FIRECalc, but I am very concerned about it using US historical data and not other countries historical data (perhaps for the lack of it??)
Here is a couple of scenarios:
(1) In another thread someone posted their assumption of 10-12% yearly return based on relatively recent data (perhaps from before recent crash). People thought it was unreasonable. Even though the person was using historical data, people said it was not enough (presumably because the period was too short of a 20-30 year period to rely on).
(2) If I told you there is a new version of FIRECalc. It would look only at the best 30 years in US history and give you the output based on that, would you use it? I am sure the answer is "no way".
So, my point is that using FIRECalc just based on US-based data has exactly the same issues as above two scenarios. You are effectively picking the best place to invest in the world and starting from that record of 130-or-so years. It may seem like depression, long stock-no-return periods, and "high" inflation of 70's provides for some bad times to test your portfolio; but I would think it does NOT. You are still picking a combination of best returns over the last century in the country which economically ended up at the "top of the world". You are effectively starting with BEST record out there, which is analogous to scenarios (1) and (2) above.
Do you really believe your results would be the same as the second largest GDP county (Japan)? I don't mean to get into debate on how US is not Japan. My point is it could even be worse than Japan going forward or it could be better - we simply don't know. What about Europe, Russia, and yes even 3rd-world countries? One might even say coming from 3-rd world status to something better could provide for higher returns than starting already at the top like US...
Also note that US had not gone through 20%, 30%, 100%, and 1000% inflation periods that seem to appear on a regular basis all over the world.
Now, some people would say why plan for "Armageddon"? If such scenarios happen, we are all dead. But the truth is all those countries are very much alive. People live through these events and still go on having to feed themselves, etc. Yes it hurts financially, and so if you are trying to "test" your retirement portfolio plans, why would you want to start with with the easiest test, i.e. the US?
Next point: for all the indexers out there (including myself to a degree), your core belief is that history of a person's picks does NOT predict his/her future performance because even if there is skill out there, it's too hard to know who is lucky and who is skillful... and in this case we are talking about skills of a person. Now, do you think history of a country predicts its future developments? Will countries that did well in one 30-year period do well in the next one? How about one century vs next? Is there any proof?
Next, I can hear someone saying: well, all you can do is stay flexible and be willing to return to workforce in worst case, and indeed this might be the only remaining option... But the point is you have to realize that stresses you put on your portfolio when relying on US history are simply in all likelihood not realistic. Even though you pad 4% SWR and say you can rely only on 3% or 2% does not mean you would be as comfortable doing so if you realized that your starting point should have been 1% SWR to begin with... Put another way, it seems very similar to saying "I will have 10% SWR and if it does not work out I will return to work". Yes, you can do that too.
Next point: US data will mislead you into percentage of equities to have in your portfolio. Again looking at Japan like returns - I would guess 0% stocks might have been the best option there in the last 20 years. No idea about 100 years though. But in any case, relying on unique US market returns seems like it might be misleading.
Here is an interesting quote from the original thread:
Also, here is a quote from Buffett in his 2005 letter to shareholders: "It’s been an easy matter for Berkshire and other owners of American equities to prosper over the years. [...] To get very specific, the Dow increased from 65.73 to 11,497.12 in the 20th century, and that amounts to a gain of 5.3% compounded annually. (Investors would also have received dividends, of course.) To achieve an equal rate of gain in the 21st century, the Dow will have to rise by December 31, 2099 to - brace yourself - precisely 2,011,011.23. But I’m willing to settle for 2,000,000; six years into this century, the Dow has gained not at all."
Now adjust the this observation from 2005 to today...
I had this thought for a while as I was reading through various posts on this forum. People often express an opinion that starting with FIRECalc is a good thing and that while FIRECalc is not perfect, is goes through all the "bad" times and therefore should give one a sense of security or at least good starting point. Please note that I think the world of FIRECalc, but I am very concerned about it using US historical data and not other countries historical data (perhaps for the lack of it??)
Here is a couple of scenarios:
(1) In another thread someone posted their assumption of 10-12% yearly return based on relatively recent data (perhaps from before recent crash). People thought it was unreasonable. Even though the person was using historical data, people said it was not enough (presumably because the period was too short of a 20-30 year period to rely on).
(2) If I told you there is a new version of FIRECalc. It would look only at the best 30 years in US history and give you the output based on that, would you use it? I am sure the answer is "no way".
So, my point is that using FIRECalc just based on US-based data has exactly the same issues as above two scenarios. You are effectively picking the best place to invest in the world and starting from that record of 130-or-so years. It may seem like depression, long stock-no-return periods, and "high" inflation of 70's provides for some bad times to test your portfolio; but I would think it does NOT. You are still picking a combination of best returns over the last century in the country which economically ended up at the "top of the world". You are effectively starting with BEST record out there, which is analogous to scenarios (1) and (2) above.
Do you really believe your results would be the same as the second largest GDP county (Japan)? I don't mean to get into debate on how US is not Japan. My point is it could even be worse than Japan going forward or it could be better - we simply don't know. What about Europe, Russia, and yes even 3rd-world countries? One might even say coming from 3-rd world status to something better could provide for higher returns than starting already at the top like US...
Also note that US had not gone through 20%, 30%, 100%, and 1000% inflation periods that seem to appear on a regular basis all over the world.
Now, some people would say why plan for "Armageddon"? If such scenarios happen, we are all dead. But the truth is all those countries are very much alive. People live through these events and still go on having to feed themselves, etc. Yes it hurts financially, and so if you are trying to "test" your retirement portfolio plans, why would you want to start with with the easiest test, i.e. the US?
Next point: for all the indexers out there (including myself to a degree), your core belief is that history of a person's picks does NOT predict his/her future performance because even if there is skill out there, it's too hard to know who is lucky and who is skillful... and in this case we are talking about skills of a person. Now, do you think history of a country predicts its future developments? Will countries that did well in one 30-year period do well in the next one? How about one century vs next? Is there any proof?
Next, I can hear someone saying: well, all you can do is stay flexible and be willing to return to workforce in worst case, and indeed this might be the only remaining option... But the point is you have to realize that stresses you put on your portfolio when relying on US history are simply in all likelihood not realistic. Even though you pad 4% SWR and say you can rely only on 3% or 2% does not mean you would be as comfortable doing so if you realized that your starting point should have been 1% SWR to begin with... Put another way, it seems very similar to saying "I will have 10% SWR and if it does not work out I will return to work". Yes, you can do that too.
Next point: US data will mislead you into percentage of equities to have in your portfolio. Again looking at Japan like returns - I would guess 0% stocks might have been the best option there in the last 20 years. No idea about 100 years though. But in any case, relying on unique US market returns seems like it might be misleading.
Here is an interesting quote from the original thread:
rmark said:'I wonder what the results of a FIRECalc type analysis would be if instead of using US data one were to use say Germany's or Japan or heaven forbid Argentina!'
Actually, I took the indiviual countries data 1900-2000 from 'Triumph of the Optimists' and ran it through the moneychimp.com monte carlo demonstrator using a 60% stock/40% bond portfolio and an initial 4% withdrawal from a $1,000,000 over 25 years.
Germany (ex-weimar republic) had a 40% success rate, Japan 42%, but no Argentina. Italy was the low at 35%. The US success rate was 83% , probably due to the slightly lower returns the book lists.
Also, here is a quote from Buffett in his 2005 letter to shareholders: "It’s been an easy matter for Berkshire and other owners of American equities to prosper over the years. [...] To get very specific, the Dow increased from 65.73 to 11,497.12 in the 20th century, and that amounts to a gain of 5.3% compounded annually. (Investors would also have received dividends, of course.) To achieve an equal rate of gain in the 21st century, the Dow will have to rise by December 31, 2099 to - brace yourself - precisely 2,011,011.23. But I’m willing to settle for 2,000,000; six years into this century, the Dow has gained not at all."
Now adjust the this observation from 2005 to today...