Explain the 4% withdrawal rate

Am I the only one who noticed Cutthroat's math boo boo?

[HFWR]

Math is hard... :P

[Nords]

Quote:

Originally Posted by TromboneAl Am I the only one who noticed Cutthroat's math boo boo?

Aw, man, now you've spoiled the fun for the rest of us!* I was waiting for the complaints to roll in from those who thought they'd need a $2-3M portfolio.

Grammar or spelling or math, Al.* Try to focus...

[haha]

Quote:

Originally Posted by TromboneAl Am I the only one who noticed Cutthroat's math boo boo?

Believing in the Golden Rule, I try not to comment negatively on posts. And, believing in Caveat Lector. I think anyone who acts on info about important issues that is presented here w/o carefully vetting it deserves whatever he gets. I think we all try to be accurate, but the need to be accuratefor other people ended with our jobs.

Ha

Quote:

Originally Posted by TromboneAl Am I the only one who noticed Cutthroat's math boo boo?

My Bad! Bad! Bad! - Yup I scrwed up! -- I think Hoc*s did it to me. Tried to get me to spend only $25 K per Mil instead of $40K

[haha]

Quote:

Originally Posted by Cut-Throat My Bad! Bad! Bad! * * - Yup I scrwed up!* -- I think Hoc*s did it to me. Tried to get me to spend only $25 K per Mil instead of $40K

That's OK Cutt, even at that lower rate you can still live like a Russian Count out of War and Peace.

Ha

[wstu32]

trying to follow this...
so if you had a $1million portfolio, you should expect to take out 4% or
$40k per year?

[dory36]

Quote:

Originally Posted by wstu32 trying to follow this... so if you had a $1million portfolio, you should expect to take out 4% or $40k per year?

Yes. That is the rate that would have been safe in the worst we have ever seen, so the 4% number, or $40,000, adjusted each year for inflation, is the commonly discussed safe withdrawal amount. That's what we mean by "safe".

Bonuses or raises? Now, there is another factor that doesn't get discussed all that much in calculations, although it probably gets implemented all the time when we use common sense in deciding how much to spend during our retirement. Let me try to give a logical description.

We are saying that 4% of the starting balance is safe, meaning that starting from any arbitrary point in time, we can initiate a series of ~30 annual withdrawals of 4% of the portfolio balance at that point in time, with adjustments for inflation.

We usually talk about this in the situation when the portfolio goes way down -- and the whole purpose of the safe rate discussions is to give us some comfort that if we stop our paychecks early, we can reasonably count on at least 4% of the balance at that point for the next ~30 years.

But look at the positive side. Let's say that in 5 years, the portfolio is at 1.2 million, after starting at 1 million. (Assume these are all inflation-adjusted dollars for this discussion.)*

What has happened?

One thing that has happened is that we have "lucked out", as the scenario that is worst for the survival of a portfolio is a large and lengthy market decline starting immediately after we decide to begin the withdrawals. Except for that scenario, the rate would be a good bit higher.

Another thing that has happened is passage of time. So now, instead of needing a $1 million portfolio to last for 30 years, we need it to last for only 25 years.

We can take advantage of our good fortune (timing retirement when we don't have an immediate bear market afterwards) and our new circumstances (more money and a shorter time to spend it) in a couple of different ways.

One -- we can start over. Just designate this new moment as the start of the withdrawal program, and take 4% of 1.2 million, or $48,000 instead of $40,000, for the next 30 years (or you could take ~4.2%, since you are now looking at 25 years instead of 30...), or,

Two -- we can take a $200,000 "bonus" to get the portfolio back down to $1 million, and continue drawing 40,000 for 30 years (or 42,000 for 25 years).

(This seems counterintuitive, but all that is happening is that we are reducing the amount that would have been left over at the end of the 30 year period, since we didn't get the bear market in the first 5 years.)

So... 4% sets your minimum withdrawal even in bad times, but you can adjust upwards following good years.

Hope this helps -- dory36

[azanon]

Quote:

So... 4% sets your minimum withdrawal even in bad times, but you can adjust upwards following good years. Hope this helps -- dory36

Is that the way the study was designed to work? I thought the method and chances for failure included all the probabilities of "good fortune", so therefore you weren't supposed to readjust if you were strictly interpreting and applying intercst's study. Said another way, maybe that extra 200K is supposed to be there for that 10-year depression that is just around the corner.

[virginia]

This has been a really good discussion. I never really considered that you might lose so much money so close to ER, although it happened with plenty of people a couple of years ago.

[REWahoo]

Quote:

Originally Posted by virginia This has been a really good discussion. I never really considered that you might lose so much money so close to ER, although it happened with plenty of people a couple of years ago.

Yes Virginia, you can run out of ER money. (Sorry, couldn't resist. )

There are many examples out there of those who failed financially very quickly in ER. An old friend of mine amassed a very nice nest egg and retired at the age of 51. It was 1999, and his financial advisor told him he was "set for life" and would never have to work again.

His ER lasted less than a year. The bottom fell out of the tech-heavy investments his financial advisor had set up for him and he lost 60% of his nest egg. After six years of full time work he says he still hasn't fully recovered. And even if he had, I think he's now so gun shy of retiring that he may work until he can draw full SS benefits.

Quote:

So... 4% sets your minimum withdrawal even in bad times, but you can adjust upwards following good years.

I understand the logic in this, but I'm with Azanon, if you're going to readjust when you have good times, you can through the originally calculated probability of success out the window.

[Nords]

Quote:

Originally Posted by TromboneAl I understand the logic in this, but I'm with Azanon, if you're going to readjust when you have good times, you can through the originally calculated probability of success out the window.

Two thoughts:
- If the new probability of success is higher than the old, then please open that window for me.
- Bernstein points out in his "Retirement Calculator from Hell" series that anything over an 80% probability of success is meaningless.

So now we're gonna have to find a way to spend that extra money? Geez, we already have enough "green waste" around here!

[azanon]

Quote:

Two thoughts: - If the new probability of success is higher than the old, then please open that window for me.

You meant lower right? If you adjust up, or take a 200K bonus, your chance of success over the remaining 25 years or whatever is lower now since the original probability of success estimation included the possibily of having strong years those first few years. You know, maybe in hindsight, "our" 30 year period (or whatever) is going to be composed of 7-8 killer years in a row at first, then a net loss for the remainin 22 years!

Also, since the market gravitates towards an average return over-time, it stands to reason, all other things being equal, the market is more likely to go down the next year if its gone up disportionately the previous years. Again, the way that whole 4% thing works is so that you capitalizes on the good years and reinvest the returns for bad years that are likely to follow.

Imagine if one readjusted using dory's suggestion right up to year 2000, ....... then just got slammed big time. I'd rather have a steady 4% + inflation payout, than have to adjust for losing half my portfolio in 2000 because i "readjusted" every year preceeding that.

[dory36]

Quote:

Originally Posted by azanon Is that the way the study was designed to work?* I thought the method and chances for failure included all the probabilities of "good fortune", so therefore you weren't supposed to readjust if you were strictly interpreting and applying intercst's study.* * Said another way, maybe that extra 200K is supposed to be there for that 10-year depression that is just around the corner.

Quote:

Originally Posted by TromboneAl I understand the logic in this, but I'm with Azanon, if you're going to readjust when you have good times, you can through the originally calculated probability of success out the window.

Nope. Here's another way of looking at it, boiled down to a simple case:

Say a buddy retired at the end of 2004 with $1.2 mil. We would all agree that the 4% rule says he can take $48k/year.

If you retired in 2000 with $1 mil and it grew to $1.2 mil in 2004 as of the same time that your buddy retired, then you are both starting 2005 with $1.2 mil, so your withdrawals can be the same. The fact that you had some prior history doesn't somehow taint your returns for the same investments that pay 4% of $1.2 mil for your buddy.

Intercst calls this the "Pay Out Reset Method" or something like that, and published spreadsheets with that model as well.

[brewer12345]

Quote:

Originally Posted by azanon Imagine if one readjusted using dory's suggestion right up to year 2000, .......* *then just got slammed big time.* * I'd rather have a steady 4% + inflation payout, than have to adjust for losing half my portfolio in 2000 because i "readjusted" every year preceeding that.

You think so? *I don't think that someone with a diversified, annually rebalanced portfolio taking 4% withdrawals is down much at all. *IIRC, there was a poster on the TMF boards that indicated that she retired around the peak and was down maybe 10%. *That's after a market bubble bursting and taking withdrawals. *The last few years have been much less stressful on portfolios than, say, the 5 to 10 years after 1966.

[azanon]

Quote:

You think so?* I don't think that someone with a diversified, annually rebalanced portfolio taking 4% withdrawals is down much at all.* IIRC, there was a poster on the TMF boards that indicated that she retired around the peak and was down maybe 10%.* That's after a market bubble bursting and taking withdrawals.* The last few years have been much less stressful on portfolios than, say, the 5 to 10 years after 1966.

That comment wasnt for the JG's and others who like to loan other people their money so that the person you're loaning your money to makes the real $$$.** *Of course you guys are safe from a year 2000, and also safe from any outstanding returns too.

I was talking to the Peter Lynches and others who realize the superiority of stocks.* Glad we got that cleared up!

Azanon

(edit)

Quote:

The last few years have been much less stressful on portfolios than, say, the 5 to 10 years after 1966.

Since i was 0-5 years old then, i'll just take your word on that, chief.

[brewer12345]

Az, just look at the historical record: 1966 was about the worst time to ER since real returns were low/negative for years and inflation was historcially high.

And keep your 'tude to yourself.

[azanon]

Step outside the box brewer. If my 'tude makes just one person take a closer look at stocks, do a little research, becomes educated, and as a result have an end portfolio of 2 million instead of 1 million, was it worth it? I think so.

.....

2000 was extremely harsh for someone fully invested in the stock market. Realize i have first-hand experience of this truth. But dont go feeling sorry for me, because of course ive been in the market for a while now, and like anyone that has, i'm not exactly hurting.

I could not care less about year-to-year, or even more-so day-to day volatility (like you posted about earlier today) with a 20 year+ investment horizon.

[TomSimpsonAZ]

Does anyone plan to use up their nest egg?

Like....I have 1 million....I'll make a % on it, but I'm going to spend 100k a year and eventually end up at zero, right as I croke.

Just wondering because I'd like to hear the reasons for not using it, pass on inheritance, living longer than expected, etc etc.