4% Rule

[Ted]

Posted by: Ted on 17.10.03 at 07:15:53
This may not be so logical.  You would likely be better off by making these large purchases during the economic downturns when fewer others are making these purchases.  Lots of businesses will be offering official purchase incentives or at least be willing to haggle.  
Hyperborea

The logic has to do with the fact that people's demand for goods (and, in fact, the aggregate demand of the entire economy) rises as their wealth -- or at least their perceived wealth -- rises. It is true that businesses lower their prices during times of reduced demand. This is a countercyclical move that helps to sustain economic activity both at the level of the incividual producer and nationally.

The problem, from the standpoint of both consumers and the overall economy, is that producers don't drop their prices fast enough or low enough to compensate for consumers' reduced demand. In particular, the price of labor (for everyone from carpenters to doctors and CEOs) doesn't drop fast enough to sustain full employment.

In short, people's natural tendency to liquidate assets and spend when they feel wealthy, even though prices tend to be higher then, is logical for them as individuals but contributes to economic booms that eventually lead to busts.

 

[Ted]

I was doing some thinking on this one, and this may not be a good thing. You may be invested too conservatively.

With 20/20 hindsight, I can see that my wealth would be greatest today if I had invested all of my money in stocks while I was working and had no need to liquidate them. The problem with stock ownership arises from the fact that most people periodically and somewhat unpredictably have the need to liquidate assets. This is particularly true once they are retired. The possibility of having to liquidate stock when the market is depressed is what can be financially devastating.

When there is the liklihood or the need to periodically liquidate assets, the "rules of the investing game" change, and it becomes important to own other assets that are not highly correlated with stock returns. I think that the question of "which other assets and how much" can be answered much more reliably by every individual entering their own data into FIRECalc rather than trying to find the book by the wisest "guru" with the best retirement planning gimmick. I feel completely confident that a retired person can beat the investment returns of the vast majority of other retirees with nothing more complicated than a combination of Vanguard's total stock index fund, Vanguard's short term corporate bond fund, and TIPs. This combination can be pretty well modeled with FIRECalc (although it would be nice if FIRECalc allowed more than 2 asset classes to be modelled at once).

 

[Hyperborea]

Hyperborea:

This may not be so logical.  You would likely be better off by making these large purchases during the economic downturns when fewer others are making these purchases.  Lots of businesses will be offering official purchase incentives or at least be willing to haggle.  
Hyperborea

 
Posted by Ted on: 21.10.03 at 08:07:08

The logic has to do with the fact that people's demand for goods (and, in fact, the aggregate demand of the entire economy) rises as their wealth -- or at least their perceived wealth -- rises.  It is true that businesses lower their prices during times of reduced demand.  This is a countercyclical move that helps to sustain economic activity both at the level of the incividual producer and nationally.

Sure on a macro-economic scale this holds true. However, the smart early retiree can use some of the funds from their fixed income buffer to have the roof replaced, house repainted, new car purchased, etc when the economy slows. These are things you are going to have to do anyways and you might as well do it when you can get the best price. This can work to the advantage of those not yet retired if they have sufficient means put aside (such as us wannabes).

Hyperborea

 

[Ted]

 
Sure on a macro-economic scale this holds true.  However, the smart early retiree can use some of the funds from their fixed income buffer to have the roof replaced, house repainted, new car purchased, etc when the economy slows.  

It's not so easy to uncouple macroeconomics from the microeconomics of personal finance. There are a couple of catches to spending when the economy is in recession (although if more people did so it would be counter-recessionary). First, prices are usually not a whole lot lower during recessions, to the extent that a person stands to gain a lot by deferring their purchases until the next recession comes along.

But the main thing that Hyperborea is overlooking is the opportunity cost of money. If the stock market is "high," then presumably it is due to fall and a person should be reducing their stock holdings. Ideally, they should be shifting to other investments, but given the need and desire to consume, it makes sense to do it by liquidating stocks when values are up.

The flip side of this is that during recessions, stock prices are down, but the potential future gain from having money invested in stocks is greater. If a person needs spending money, they should be liquidating their cash equivalents and bonds, but they also have the choice of liquidating some of their bonds and purchasing stocks at values that are (presumably) depressed.

The only really sure thing is that it is good to have a lot of asset value that enables a person to buy what is important to them without trying to time the markets!