Why won't a 4% SWR last forever?

[youbet]

Originally Posted by gindie

For example, assume a $1,000,000 nest egg on December 31 of my final year of work. I take out $40,000 (4%) on the first day of my retirement year. And further assume a 3% inflation rate and 7% investment rate of return in retirement.

Then, after year 1 of retirement, my account would be:

1,000,000 - 40,000 = 960,000 * (1.07) = 1,027,200

Year 2 would then be:

1,027,200 - 41,200 (the original amount * 1.03) = 986,000 * (1.07) = 1,055,020, and so on.

Using averages for your calculations is extremely risky. If you check the numbers, there is hardly ever a year with a 7% return and 3% inflation. You may get those numbers as averages over time, but the actual data will fluctuate widely around those means.

Instead of using the averages as you did, build a simple spead sheet and start with huge portfolio loses the first few years coupled with high inflation. The loses will dramatically reduce your portfolio and the high inflation will drive your required withdrawals way up. Then start plugging in market gains and low inflation numbers until the average is about 7% and 3% respectively. You'll see the difference!

Just remember that a 7% average return is not a typical return for any year.

[mathjak107]

Originally Posted by 2B

That may not be to your advantage. In 2000 all of the "high alpha growth funds" were in tech. How long will it take for the Janus fund (can't remember the name) that was the great high flyer pre-bubble burst to get back? I think 15 years is very optimistic if the fund is even still around.

I continue to fall back on the basic concept of diversification among asset classes. I have some growth (small cap growth) but it's relatively small -- about 10%.

Not true, i had quite a few high alpha funds that out performed the market in 2001 2002 and 2003 . they were well diversified and not tech heavy.

Actually we wished they were tech heavy when those sectors were soaring but were soooooooo glad they werent afterwards

[youbet]

Originally Posted by 2B

There is not any difference between the "buckets of money" and a portfolio with a high % of laddered bonds.

Oh no...... Ray's system is "magic." Your cash and bond ladders will all yield more if you call them "bucket 1." Your fixed income funds and reits will sail with more favorable winds if you call them "bucket 2." And your aggressive equity positions will make you a fortune if you call them "bucket 3."

OK, sorry about the sarcasm.

2B, I've been busy trying to understand what Ray Lucia is really doing and I think I'm getting close. His system is a combination of asset allocation phased with a rebalancing and withdrawal plan. Other than sometimes carrying a very high cash allocation, I don't see a particular problem with what he's doing. (And, hey, sometimes a high cash allocation is the way to go!) I'm just not comfortable classifying assets into "buckets" simply because I'm more comfortable with a "one portfolio" approach. Although, I might wind up doing the same thing someone using Ray's methodology might do, I just don't vision my assets being in "buckets."

Ray is obviously a charismatic speaker/writer and lots of folks have grabbed onto his jargon with a religious-like zeal. And so be it. You can certainly execute an allocation/rebalancing/withdrawal plan with all the advantages/disadvantages of Ray's without his "buckets" terminology, but if using it gives folks a level of confidence they need, great.

To Ray's credit, he does give an appropriate emphasis to withdrawal strategies, something most of the "gurus" don't do, instead focusing almost exclusively on the accumulation period.

[2B]

The airwaves and book aisles are full of people wanting you to let them manage your money. There are a few "pure" authors about financial matters but most are looking for that "hook" that will bring in the customers/clients. Ray is a financial planner that has found it and I don't have anything negative to say about it. I've read his book and I've evaluated "bucketizing" for my plan. It's an overall conservative approach. He is encouraging people to become clients of his firm.

On the other side of the spectrum, I heard a financial planner on a Houston radio station yesterday morning say that all of the people buying no load mutual funds are ruining the American economy. If we pay a load, we know that the mutual fund is working "for us." If we buy a no load, that money is used to buy influence with CEOs. The no load fund will buy/prop up his company's stock price but the CEO will have to give the firm investment banking fees for acquisitions and mergers. Thereby, the companies are forced to do bad deals or their stock prices will plunge. Before that I didn't know how much investment banking Vanguard and Fidelity must do. People like this should be off the air and have their CFP (if they have one) revoked.

[scrubradio]

Originally Posted by Rich_in_Tampa

Poin well taken.

If you really want "forever" you should take 4% of your annual balance, period. That may result in highly variable annual income, but you're good to go. Might use Clyatt's 95% rule to smooth things out, but that voids the warranty other than for historic circumstances.

IRA SEPP payments can't be set up to draw at a variable rate based on
4% can they?

[Rich_in_Tampa]

Originally Posted by scrubradio

IRA SEPP payments can't be set up to draw at a variable rate based on
4% can they?

Depends on your fund, but I don't see why not.

If not, just estimate a fixed amount a little lower than the estimated amount and take it that way, with an occasional additional withdrawal to set it right.

[scrubradio]

Originally Posted by Rich_in_Tampa

Depends on your fund, but I don't see why not.

If not, just estimate a fixed amount a little lower than the estimated amount and take it that way, with an occasional additional withdrawal to set it right.

If in fact it could then it would make sense to set it up to do exactly that.
Take 4% each year and in good years where you don't need the full 4%
dump the un-needed ammount in a different stable investment you have
full access to during the not so good years.

I'm just throwing ideas out to get feedback to help me formulate a plan.

[razztazz]

If in fact it could then it would make sense to set it up to do exactly that.
Take 4% each year and in good years where you don't need the full 4%
dump the un-needed ammount in a different stable investment you have
full access to during the not so good years.

I'm just throwing ideas out to get feedback to help me formulate a plan.

A long time ago someone else method mentioned this as a way to make a single payment immediate annuity keep up with inflation. Since you can already get a higher payout from an annuity (well, usually) than you can in'regular" fixed income" stashes, you just take the diffrence bwtween your expences and the annuity payout and put it in a sinking fund to grow so that when inflation starts eating into your annuity check you can "top it off" with that reserved money

[dory36]

Originally Posted by retire@40

Yup. That's why people should have 2 budgets:

1. A comfort budget.
2. A bare bones budget which should be no more than 1/2 to 2/3 of your comfort budget.

If you can live on a 4% SWR comfort budget, then even in a major downturn, if you can temporarily revert to your bare bones budget, you should at least feel better about your potential outcome.

I divided it into 3 buckets a few years back...

Originally Posted by dory36

...Mentally I divide my portfolio into 3 buckets.

Bucket one is what I feel I need to maintain my lifestyle until social security kicks in. I withdraw at the nearly 100% safe rate from this now, nut the time frame is only until SS kicks in.

Bucket two is the part I'll need to add to SS to maintain that lifestyle. No withdrawals now; nearly 100% safe rate starting when I start withdrawals, with a time frame to outlast me.

Bucket three is "play" money, and I feel comfortable withdrawing at a more risky rate, like 85%.

Taking this approach, rather than trying to make a single decision on what I needed, has helped me a lot -- and speeded up my early retirement by about 2 years.

[OAG]

Isn't this just what an annuity is? I have two annuities, both of which are COLA'd. So what you are saying is that take the income from these that exceed annual expenses and put it someplace and let it grow. I think that pretty well describes the system. My annuities are SS and MIL Retired Pay, both act just like an annuity and have a survivors aspect to them (SS in the higher rate being transfered to a spouse) and the Military Retired Pay has a benefit program attached (even at 10% it will provide about a 17% of gross lifetime annuity to the spouse). Since the combination of these "annuities" exceed the expenses the question then becomes where to you stick the excess where it will grow, more or less, to offset any shortfall in the spouses living expenses when I check out. Personally, for me CD's provide a safe and pretty solid return (in excess of 5.5% in a laddered set of CD's in three institurions) with maturities over the next 8 years (through 2014).

Since the "annuites" are backed by the "full faith" of the US Govt there is no reason they will go south anytime soon. Even the CD's can provide, if necessary, current income if need be by just taking the interest part as income (without penalty of any kind; other than reducing current growth). Home new and paid for, 2005 SUV paid for and no other debt.

With this type of situation I only have to be "careful crossing streets". I guess it helps being old enough to be getting SS (which I started at 62), having employer medical care provided, and kind of a lower need for living expenses.

I guess if I could get the 7% rate of return everyone ascribes to the Stock Market it would be better. But, having $1M in cash a tad quicker in time would be nice but for the effort that seems to be needed I will settle for the 5.5+ rate (year in and year out) and not worry about the other 1.5%.

I have also toyed with a bit of a modification of the SWR (although I do see the wisdom of 4%). In my modification I gear withdrawals at the combined RMD rates for Traditional IRA's since both DW and I have IRA's which will require RMD's starting in the next couple of years. Using those rates (IRS PUB 915) and sticking with them the money does not exhaust itself until the one reaches approximately 114 years old. I guess if you start at 70 years of age that means the money will last approximately 40 years. (to answer the question in "Why won't a 4% SWR last forever" it sure will, at least, in my case); and, if the principal is protected, I would think it would for most.

[Nords]

Originally Posted by scrubradio

Wouldn't a well balanced portfolio help to reduce the effects of volitility?

Well, yeah, but volatility won't go to zero unless your income is a fixed pension or an annuity. Even CDs & bonds mature and have to be reinvested at different rates.

The best way to handle volatility is to render it irrelevant by not having to sell your assets in a down market.

Originally Posted by scrubradio

Gotcha.
So if I decided to FIRE and miscalculated, I could end up watching my portfolio deteriorate and find myself back out in the workforce in a hurry.

Yup, but if you have sufficient cash (or some other asset) on the sidelines to draw from while the bear market lurches onward, then you'll probably survive. That's the basis of diversification, look at Old Army Guy's system below, and it's also why everyone seems to be spouting buckets this month.

Originally Posted by 2B

I knew a guy who retired in 1999 based on the 20+% he had been making in tech stocks. He had $500,000 and felt he could get by on $75,000/yr. He thought that would be no problem even if his returns dropped a little. He went back to work in 2003 effectively broke. He tried to go back to work sooner but no one was hiring IT types in 2002.

I have an uncle-in-law who retired in the 1980s on the strength of the bull market and was doing just fine until he started shorting the ridiculously overvalued NASDAQ.

In 1996.

A few dozen margin calls later he was back in the work force, teaching math & science in East LA, but he's retired again on a pension.

Originally Posted by Old Army Guy

Isn't this just what an annuity is? I have two annuities, both of which are COLA'd. So what you are saying is that take the income from these that exceed annual expenses and put it someplace and let it grow. I think that pretty well describes the system. My annuities are SS and MIL Retired Pay, both act just like an annuity and have a survivors aspect to them (SS in the higher rate being transfered to a spouse) and the Military Retired Pay has a benefit program attached (even at 10% it will provide about a 17% of gross lifetime annuity to the spouse). Since the combination of these "annuities" exceed the expenses the question then becomes where to you stick the excess where it will grow, more or less, to offset any shortfall in the spouses living expenses when I check out. Personally, for me CD's provide a safe and pretty solid return (in excess of 5.5% in a laddered set of CD's in three institurions) with maturities over the next 8 years (through 2014).

Whoa, careful, wild talk like that will convince you to put the rest of your portfolio in equities!

[donheff]

By the way, back to the original question, in most scenarios it will last forever - just not all.