SWR for healthy 40-year-old

[smjsl]

What would be your SWR if you retired at 40?

While 4% SWR for a 65-year-old is a known rule of thumb, I am curious how it gets affected by time. So, for example, for a 40-year-old, what would you be comfortable with?

 

[audreyh1]

I retired just before my 40th birthday and looked at 50 year portfolio survival.

From what I have read over the years, dropping the SWR 0.5% to 3.5% (including taxes of course) significantly increases the portfolio survival chances.

I also went one step further and decided not to inflation adjust withdrawals, but to limit them to a fixed % of the portfolio any given year, so that if the portfolio dropped, so would my withdrawals.

Audrey

 

[FIREd]

The SWR will depend upon the spending model you use (and your AA). if you use a constant spending power model with full CPI adjustment, I would think that 2.5-3% would probably be the max SWR for a healthy 40 year old. If you use the fixed percentage of portfolio model, I think that 3-3.5% would probably do. You can run a few simulations in Firecalc to figure out what SWR, historically, would have worked for your situation.

 

[Gone4Good]

I'm using 3% as a withdrawal ceiling. My actual withdrawals should be substantially less.

 

[Nords]

So, for example, for a 40-year-old, what would you be comfortable with?

Depends on the withdrawal method.

Using the fixed, inflation-adjusted, ignore-the-rest-of-the-world-and-just-blindly-spend-the-money withdrawal method, I'd stick to 3% for the first 10-20 years.

Under a variable withdrawal method I'd feel comfortable with 4-5% for most years and either some part-time income or Bob Clyat's 4%/95% system.

 

[jIMOh]

Anything lower than 3% is the "wrong portfolio" IMO

Make sure there is enough in a dividend income fund to provide income
then invest the rest for growth...

every dividend investor which replied to a survey I did (about 2 years ago) told me they had a yield higher than 3%.
http://www.early-retirement.org/forums/f28/dividend-investing-do-you-get-a-3-yield-37716.html

Live off the dividends, keep the capital growth in portfolio
and have some cash and bonds set aside as an emergency for short term market fluctuations in dividend payout.

 

[FUEGO]

While 4% SWR for a 65-year-old is a known rule of thumb, I am curious how it gets affected by time. So, for example, for a 40-year-old, what would you be comfortable with?

I retired just before my 40th birthday and looked at 50 year portfolio survival.

I also went one step further and decided not to inflation adjust withdrawals, but to limit them to a fixed % of the portfolio any given year, so that if the portfolio dropped, so would my withdrawals.

I used to obsess over what exact percentage I should be aiming for, since 1% difference means accumulating a MUCH larger portfolio (33% larger going from 4% to 3% SWR). I think after looking at the numbers and math, something just a tad larger than 3% seemed safe most of the time (roughly 95%). 3.1-3.2% maybe.

In reality I plan on setting up a "forever" withdrawal rate that is largely funded by dividends and interest. And have my annual withdrawal amount partially tied to portfolio value, and partially increased based on inflation. If 3.2% SWR is the number, then maybe 1% of the withdrawal is inflation adjusted, and 2.2% of the current portfolio amount is variable and goes up and down as the portfolio value fluctuates. Part of this plan involves having a budget flexible enough to reduce consumption a little in those down years without feeling pinched. For us, travel/fun budget will represent a significant portion of our ER budget (now that health insurance looks like it will be cost-contained). Maybe when the portfolio takes a hit, we do some more local travel we have neglected and back off of cruises, international travel, etc. Or hit up the cheap international places.

At the end of the day, we will spend whatever we need/want within reason, and if the portfolio value gets too low, we will adjust somehow (lower our fixed costs, work, deferred maintenance or capital expenditures, less vacations, etc).

Edited to add: yes, the SWR number can be higher than 3.1-3.2% in my opinion if you adopt a partially or fully variable withdrawal based on annual portfolio value. Maybe 4% if you really are willing to make the cuts required when the market tanks. But making 10-20% cuts in spending when the market has a hiccup may hurt. And who really wants to go all out and blow through 50% more income if the market rises 50% over a few years. My guess is some moderation on the way up and down will make one happier overall.

 

[Animorph]

If you have some flexibility, 4% of the portfolio value each year should be indefinitely sustainable, with an above-inflation raise most years.

If your flexibility is limited I'd stick with about 3% just to be safe. You'll have plenty of time to adjust it later if it turns out to be too conservative.

 

[Gone4Good]

Anything lower than 3% is the "wrong portfolio" IMO

Maybe.

Although a lot of those dividend investors who overweighted financials in search of yield got smoked.

Dividends do not necessarily make a portfolio less risky.

 

[jIMOh]

Maybe.

Although a lot of those dividend investors who overweighted financials in search of yield got smoked.

Dividends do not necessarily make a portfolio less risky.

I see dividends as a means to an end, not a way to reduce risk. They change the risk into something more manageable.

If I have 1,000,000 shares paying me $.03 each, I am judging the shares on the payout only (do I get my $30k or not). Whether those 1 M shares are worth $5 M or 3 M is not how I measure my portfolio. The focus is on making sure the portfolio generates the income needed (30k in this example) and if one stock raises payout from $.03 to .04, that makes up for 1-2-3 other stocks dropping payout from .03 to .02. .01 or 0.

As an investor, its easier to manage the payout of the portfolio than it is to manage the performance of the entire asset allocation.

Yes it would be nice to have the higher value (more options present themselves), but my point is focus on the payout, and manage risk by managing payout, not by traditional asset allocation models.

 

[FUEGO]

As an investor, its easier to manage the payout of the portfolio than it is to manage the performance of the entire asset allocation.

Yes it would be nice to have the higher value (more options present themselves), but my point is focus on the payout, and manage risk by managing payout, not by traditional asset allocation models.

Which is exactly what would have led you to solid financials paying out tasty dividends circa 2007, only to be whacked severely.

For what it is worth, I ran a morningstar x-ray on my traditional asset allocation portfolio that is heavy on the international, small, and value tilts. 2.27% dividend yield with a 0.27% expense ratio. So if one could get similar market exposure by picking a sampling of representative stocks (instead of paying for ETF or mutual fund management), they could get 2.5% div yield without focusing solely on heavy div payers.

2.25% div yield will fund 70% of a 3.2% SWR. Only requires a small nibble on principal each year. Or an allocation to higher yielding fixed income that provides more yield.

 

[ziggy29]

Anything lower than 3% is the "wrong portfolio" IMO

Not necessarily. It could be that the AA is right but the person is very conservative with respect to what they are comfortable withdrawing.

 

[Gone4Good]

Which is exactly what would have led you to solid financials paying out tasty dividends, only to be whacked severely.

Exactly.

Yield investing is fine, as long as you understand the risks (and there are several).

But I wouldn't equate a portfolio's current yield with its ability to fund a retirement. A 3% WR on an equity portfolio yielding 3% is likely a weaker retirement plan than a 2.5% WR on a well diversified equity portfolio yielding less.

 

[jIMOh]

Which is exactly what would have led you to solid financials paying out tasty dividends, only to be whacked severely.

For what it is worth, I ran a morningstar x-ray on my traditional asset allocation portfolio that is heavy on the international, small, and value tilts. 2.27% dividend yield with a 0.27% expense ratio. So if one could get similar market exposure by picking a sampling of representative stocks (instead of paying for ETF or mutual fund management), they could get 2.5% div yield without focusing solely on heavy div payers.

2.25% div yield will fund 70% of a 3.2% SWR. Only requires a small nibble on principal each year. Or an allocation to higher yielding fixed income that provides more yield.

The foundation for the survey I did was my primary large cap fund (PRFDX) is a solid dividend fund, and only yields slightly higher than 2%. I checked other similar funds, like Windsor II, and it also had about the same yield (just above 2%). The people on this board told me 2% was too low for a dividend portfolio- utilities, REITs and solid companies like Phillip Morris in dividend portfolio can easily take that 3% goal and blow it away.

Even if a dividend portfolio had an "overweight" to financials, and those companies cut dividends, the risk is they eliminate the dividend, not cut it.

If I owned a $100 stock which was paying me $3 (3% dividend) that is low relative to the portfolio's mentioned (if you average 3%, there are higher paying stocks in portfolio). If the stock price was cut 70% (to $30) and the dividend was cut to something lower (like $.50) I am still getting a payout.

The risk is in managing the payout, not trying to stabilize portfolio value. And that payout risk can be hedged with 2-3 years expenses in savings, some bonds and investments in other sectors of the market.

In general my retirement plan is a buckets approach, and what I plan to do is have my bare minimum of expenses covered by dividends and then use other allocation methods for expenses I can change.

 

[FUEGO]

If I owned a $100 stock which was paying me $3 (3% dividend) that is low relative to the portfolio's mentioned (if you average 3%, there are higher paying stocks in portfolio). If the stock price was cut 70% (to $30) and the dividend was cut to something lower (like $.50) I am still getting a payout.

So you lost $70 and had your payout cut to $0.50. You still need the $3 in payout to set you right back to where you were. Do you eat the $2.50 loss in income, or do you sell the $30 you have left and put it into $30 of something else that yields $1? Either way, $70 of your principal value is GONE!!

In a perfect world, I could build a safe portfolio of boring bond-like equities that pay dividends that grow at least as fast as inflation, the principal value of which would not fluctuate much. In the real world, companies hit snags, sectors rotate, lawsuits happen, consumer sentiments or spending patterns change, technology evolves, competitors out compete, out innovate, and consume market share.

 

[Calgary_Girl]

Maybe.

Although a lot of those dividend investors who overweighted financials in search of yield got smoked.

Depends on the stock. The Canadian banks got through the financial crisis pretty much unscathed and none of the Canadian banks cut their dividends .

 

[Nords]

So you lost $70 and had your payout cut to $0.50. You still need the $3 in payout to set you right back to where you were. Do you eat the $2.50 loss in income, or do you sell the $30 you have left and put it into $30 of something else that yields $1? Either way, $70 of your principal value is GONE!!

Even worse, if you're doing this with mutual funds or ETFs instead of individual stocks then it's a permanent loss when the index is "restructured".

The Dow Dividend ETF (DVY) was particularly savaged when its "dividend aristocrats" turned out to be not-so-noble as their multi-decade history would have led one to predict.

The "good" news is that in late 2008 I was able to buy shares at a 5.9% trailing yield. For whatever that turned out to be worth in the future...

 

[FUEGO]

The "good" news is that in late 2008 I was able to buy shares at a 5.9% trailing yield. For whatever that turned out to be worth in the future...

I think that was roughly the yield of KBE (bank index fund) when I bought it in 2008. Yeah, not quite 5.9% today. Probably not even 0.9%. But hey, it may come back someday. At least I have more than recovered my principal, and it trickled out a few nice dividends before someone shut the spigot off.

 

[Gone4Good]

Depends on the stock. The Canadian banks got through the financial crisis pretty much unscathed and none of the Canadian banks cut their dividends .

Yup. They did well . . . this time.

 

[clifp]

I see dividends as a means to an end, not a way to reduce risk. They change the risk into something more manageable.

If I have 1,000,000 shares paying me $.03 each, I am judging the shares on the payout only (do I get my $30k or not). Whether those 1 M shares are worth $5 M or 3 M is not how I measure my portfolio. The focus is on making sure the portfolio generates the income needed (30k in this example) and if one stock raises payout from $.03 to .04, that makes up for 1-2-3 other stocks dropping payout from .03 to .02. .01 or 0.

As an investor, its easier to manage the payout of the portfolio than it is to manage the performance of the entire asset allocation.

Yes it would be nice to have the higher value (more options present themselves), but my point is focus on the payout, and manage risk by managing payout, not by traditional asset allocation models.

I think you summarize my investment philosophy quite well. It work like a champ right up to Q4/2008 when all of my financial stocks slashed or virtually eliminated (.01 dividend doesn't really count) their dividends. Most of REIT cut them significantly, and even a few outlier like Pfizier cut them in half, and natural gas producer Crosstex XTEX eliminated them. In fact the dividend payments for the broader markets are much lower than two years ago.

My portfolio is 10-15% but my annual income (also due to lower interest rates) had dropped by almost 30%.

 

[ESRwannabe]

I think a 3% withdrawal rate will work, i.e. taking out an amount equal to 3% of the original portfolio and adding onto the withdrawal the inflation every year.

My plan is to primarily rely on dividends for my withdrawal. I do have some funds in my portfolio like small cap index, that I will be selling shares of one day, but for the most part I try to buy stocks that have a descent dividend yield, i.e. 2% or more.

I plan to continue working part-time forever. So, I believe my withdrawal strategy, which will be lower than necessary and also volatile, will work out ok. If I found myself in a situation where dividends were too low, I'd try to find more work. I also plan on keeping a year or two of living expenses in cash, in case I have trouble finding that extra work.

My strategy looks to be similar to that of jIMOh. I do focus on dividends simply because it is much easier to figure out where you are at. I can look at the previous year's payouts for a fund/stock and using the current share price, and how much money I have to invest, and figure out what the dividend yield will probably be and how much money I would receive if I owned the shares.

I am very wary of dividend focused funds that use a mechanical screening process. The only one of that type I like is VIG, which isn't a high yield fund. For a higher yield I like market cap weighted sector indexes like XLU or buying individual stocks.

Right now I am mostly in broad market index funds. Thanks to the crash I was able to buy them and still have a dividend yield of roughly 3.5% based on my cost basis and last year's payouts. I prefer to buy the broad market indexes if I can get at least a 2% dividend yield. In time the payouts should increase and my dividend will be closer to 3% or more.

 

[W2R]

I seem to recall from the Trinity study that 3% will probably work for a very long time or possibly forever.

I voted for 2.5% because I have a very cautious nature, and because with a possibly even 50-60 year retirement, heaven only knows what could happen.

 

[FIREd]

I thought that living off dividends and interests was the best way to go too. Until I realized how much my dividends have been cut over the past year and how long it is taking for them to start rising again. I do tend to focus somewhat on dividend-paying investments but I will probably stick with a total return approach during the withdrawal phase (even though most of my withdrawals will be funded with dividends). My portfolio currently yields about 2.9%.

I am thinking about living on 3% of portfolio value each year. In good years there will probably be a surplus which will be set aside to supplement the lower income during bad years. This method will hopefully help smooth our income through booms and busts.

 

[MichaelB]

Without context it’s tough to say, but 3% withdrawal rate has enough room for someone to increase their standard of living (moderately, just to keep up with US average) and still keep the portfolio whole.

 

[clifp]

When I retired at 40, I didn't know what SWR was much less how to calculate it. A year later I learned about stuff like the Trinity study. For the first few years of my retirement the debate on ER board was could you go higher than 4% by controlling the expenses. I decided that 4% was more than enough for my needs. Fast forward 10 year the debate now is 4% to aggressive. My portfolio has shrunk, and eventhough I'm 50, my SWR is 3.5% of my current balance.