FireCalc and Big drop in Portfolio in Year 1

[shotgunner]

I thought I was entering ER this past April. Thankfully I am working P/T at my former employer through 6/30/09 and this has reduced the amount of portfolio reduction so far in year 1 by more than half.

Using April as my benchmark my portfolio stood at $1,040,000 with a 50/50 position of equities vs fixed assets. My draw was starting at $40,000 a year with 4% inflation factor, 30 year term, Soc. Security Income of $16K annually kicking in at 2019. (I don't think I need 40K but it allows for extras, 36K would be more normal).

I have not included the value of my house, owned outright, market analysis this past weekend of $215,000.

Fircalc returned a 100% and as I adjusted the portfolio value down it seemed there was a significant margin of safety before going under 100%.

6 months later my total portfolio with no change to AA by me now stands at just under 900K. Somewhere around $875K I start slipping into less than 100% probabilities.

I have not shaved even one year off the 30 years starting at a benchmark I set in April and my portfolio may not continue to show 100% certainty for much longer.

Is FireCalc something one should be using periodically throughout the year, or once a year or should it be fire and forget and keep my portfolio at the 50/50 AA at the start of each calendar year. Or is the answer none of the above.

Earlier this year as I was getting ready to start an ER I took some confidence that FireCalc showed I would have made it even if starting a retirement at the start of the Great Depression. Now I wonder.

I appreciate all thoughts on my scenario

 

[deepc]

The hazard of calculators such as FireCalc is that they don't account for the "Black Swan" that has never before been experienced in their historic range. But I will grant this particular calculator that its range is pretty wide.

One thing I learned this last year (when I was going to retire, and then took a job, and ultimately retired) is that there is/will never be a good time to punch out if you're watching the money. What I learned is that you set your asset allocation to your tolerance level (mine is extremely low--others go way the other way), you do what you can to account for unavoidable hiccups (like a COLA pension, or several years in cash) and then you jump when you realize that you can't win against time and wouldn't it suck to have a 100 pct success rate for fifty years, and get hit by a bus tomorrow.

 

[shotgunner]

Thanks Deepc

I agree the march of time and the certainty of death were driving factors for a decision to ER. Unfortunately no COLA pension here but my fixed asset position outside of retirement accounts could take me 6 to 8 years if necessary.

I suppose if the worst thing that happens is a "forced" return to full time work in the future that is not so bad. Sitting in a cancer ward looking out the window wishing I had taken more time for myself is a scarier thought.

The market plunge still stinks though.

 

[mike hall]

I think you should use FireCalc to look at the feasibility of your plan, not as a specfic planning tool. I learned a lot by setting up the figures I thought I would have, then changing one variable at a time and trying to see the effect. for example delaying SS. There is no harm in continuing to check it periodically, but i would always view the results qualitatively, not quantitatively.

 

[shotgunner]

Trying to use it for probability of success

I believe I am trying to use it as intended, not a quantitative guarantee but to get a sense of feasibility of success. I am just not sure with such a precipitous drop in portfolio value in my first 6 months that it fits my situation per se. My time horizon has not really changed, only been E/R'd for 6 months, annual draw is unchanged, portfolio value down 20%.

My portfolio value is what it was in March 2005 which is a point in time where I started to see that ER would be a possibility. If I extend my time horizon to 33 years (to back up the calendar to 2005), use current (and what was then total portfolio value), and use my desired annual draw I still get 100%. I think this tells me that had I started my E/R in 2005 and the Great Depression happened as I go forward my plan remains feasible.

Does this make sense or am I driving myself nuts without learning anything.

I am really trying to resist the urge to join the panic and sell some equities at this point in time.

 

[2B]

I created two retirement plans. One is funded entirely with cash, CDs, small pension and eventual SS. It is designed to cover my basic living expenses in retirement. The other one is based entirely on equities and it's only intent is to provide for luxuries and travel.

 

[Rich_by_the_Bay]

It is expected that as you decrease your starting assets at some point a few historic scenarios will fail. I wouldn't personally change my plan based on FC until the failure rate started to drop into the mid-80% range.

Noting that FC assesses a couple of hundred historic scenarios at most, and that the number of other, untested scenarios is infinite in a practical sense, you just can't hitch your wagon too closely to it. It also fails to account for the likelihood that prior to a failure scenario you will probably see the danger signs and cut back long before a zero balance, in most cases.

I like FC for what it does, but think of it as a sanity check more than a precise planning tool. I'm not a financial expert, but am learning quickly that any retirement plan I select had better have a good dose of flexibility.

 

[Grep]

This is tongue-in-cheek (gallows humor seems appropriate these days), but, according to some:

If you had actually retired in April when your SWR of 40k could have sustained you, then this drop means nothing (assuming it's not worse than the worst of the past). Keep increasing your withdrawal with inflation as planned and, by the definition of SWR, you will be fine.

Since you did not retire in April, you unfortunately are stuck with a lower SWR should you do so now! Wow, less retirement and less money! It's actually *preferable* to retire just before a major decline!!!

Again, this is a bit of "humor," really. There have been many, many debates about what SWR really means in good times and bad. Some say stick to your plan, others say of course you must make adjustments. There are good arguments on both sides, though I'm in the "make adjustments" camp.

 

[jIMOh]

One question I have- would your 50-50 portfolio generate enough income (36k) without needing to sell shares? I would think for first 1-5 years of FIRE that would be all that was needed (regardless of market movements) assuming a reasonable (3%) amount of yield from the equites and slightly higher (4.5-5%) from the bonds.

I am 35 yo and found the question originally asked quite interesting.

 

[plex]

There is a pretty simple explanation for this.

There is more to looking at how much you can withdraw each year than just using a simple 4% rule.

When looking at your portfolio at a specific point in time, it will almost never be at the average rate of return. It will either be higher or lower. The 4% rule is a long-term planning tool that gives you a good idea of how much you can withdraw each year.

So, what if the market is doing poorly in the short term (like right now)? That means it is performing well under the expected average. It will go back up in the long term. As such, you can use a higher withdraw percentage beyond the 4% rule when calculating for the long term and it will still be at 100% safety.

I believe one way to do this would be to determine the difference between your average portfolio return and your current portfolio return. Let us say you are down -28%, your portfolio yields on average 8%, and your principle is worth 100% on average. So, 100-28 = 72. Divide that by what you should be earning 108. so, 72/108 = 66.6%. This means current market conditions are skewing your withdraw percentages by -33.3%.

To correct for this you can divide your normal safe withdraw rate of 4% by the change that has occurred 66.6% (in an up market this would be over 100% and it would reduce your withdraw rate, since this is a down market though it will increase it). 4%/66.6% = 6%.

As you may notice, I ended up with a clean 6% number, that is because I chose a loss rate (-28%) and an average portfolio return (+8%), that would give me a whole number at the end to make this as simple as possible.

Also note, this obviously takes into account inflation, since that is the one of the main purposes of the 4% rule.

The take away from all this is, if you are down 28% (year-to-date) and you normally can expect an 8% return over the long-term (30 years), you should be basing your withdraw rate from your current portfolio point at 6%, not 4%. The converse is also true, if you are up 34% (year-to-date), when you normally expect a return of 8% at a particular point, you should be basing your withdraw rate at 3%, not 4%.

 

[Kronk]

Since you did not retire in April, you unfortunately are stuck with a lower SWR should you do so now! Wow, less retirement and less money! It's actually *preferable* to retire just before a major decline!!!

Heh. I found that kind of funny, too.

You know, you'd think it would be possible to predict a better SWR based on the past history. Maybe based on the return of the prior 5-10 years. If it has gone up >X%, SWR is 3.5%. If it is down over the time span, 5% might be safe. I don't know if there are rules like that, but it would be interesting if there were. Then FireCalc could take current market conditions into account as well...

 

[lazygood4nothinbum]

each religion is right until reality proves otherwise.

 

[Rich_by_the_Bay]

There is a pretty simple explanation for this....So, what if the market is doing poorly in the short term (like right now)? That means it is performing well under the expected average. It will go back up in the long term. As such, you can use a higher withdraw percentage beyond the 4% rule when calculating for the long term and it will still be at 100% safety..

It sounds like you're assuming a "4% of total assets" SW scheme rather than a "4% initial then adjust for inflation only" scheme. FC's default is the latter and as such, it does not expect you to increase your percent withdrawal based on performance -- it's just an annual inflation adjustment.

Nothing wrong with either method if you understand its implications, but FC will mislead you if you confuse the two.

 

[TromboneAl]

Is FireCalc something one should be using periodically throughout the year, or once a year or should it be fire and forget and keep my portfolio at the 50/50 AA at the start of each calendar year.

Technically, I'd say there's only one meaningful way to use FireCalc. You plug in the numbers, look at your probability of success, and decide whether to pull the plug. You can do it every day if you want. Once you decide to pull the plug, then you stick with your chosen withdrawal rate/inflation adjustments, and you'll know your probability of success.

Perhaps I'm just stating the obvious.

 

[Animorph]

FireCalc is telling you that if the Great Depression started now, 10/8/08, and the stock market fell another 60% from now or whatever it did back then, then you may not meet your withdrawal goal. Now that is safety!

Your April numbers are far more reasonable than the ones you are getting now.

On the other hand, it is just history and not predicting the future...

 

[Gearhead Jim]

Each year on Jan 1, I run FIRECALC based on the actual assets we have (including SS and pension), rebalance the AA if a different allocation would be more secure, and then we spend that much money during the coming year. Basing it on me living to 100, which would make my wife 98, and using 95% probability. That's pretty secure, and more important, causes us to start decreasing our spending before the portfolio gets really low. Since my portfolio is down about 15% this year, we will probably need to decrease our spending by about 10% for 2009 (pension and SS have not decreased).
This only works if you have a moderate amount of "extra" income you are spending on non-essentials like travel. Those who are living closer to the edge, would not find it to work as well.

 

[shotgunner]

I guess I should stop analyzing

Firecalc said I was good to go back in April for a full E/R. My advisor said I was good to go. After nearly a 40% drop in the S&P 500 6 months later Firecalc said I was still OK (that seems like I have a pretty good margin of safety).

Some of you say it looks good from what I told you.

I am trying to remind myself, I have a P/T job for awhile, my probability of success remains high, if this is a black swan event my place in the bread line is towards the rear and several years out.

This current financial crisis still stinks and it might even be worse if I was close to ER and it scared me out of it. You only get so many days on earth.

I am enjoying semi-retirement, I don't want to work full time again.

Stay the course, stay the course, stay the course, don't sell, I have to have courage.

I am glad I found this board, I have few peers who can share my worries in my circle of friends, good people but ER is not going to happen for them. They can't relate.

Thank you, any further thoughts and support is appreciated.

 

[Kronk]

Technically, I'd say there's only one meaningful way to use FireCalc. You plug in the numbers, look at your probability of success, and decide whether to pull the plug. You can do it every day if you want. Once you decide to pull the plug, then you stick with your chosen withdrawal rate/inflation adjustments, and you'll know your probability of success.

Perhaps I'm just stating the obvious.

To me, though, that's the blind spot of FireCalc. If you're looking every day and seeing your percentage go from 85% to 95%, you might decide that 95% is good enough to pull the plug. But what if you got to that 95% because of a huge market runup? Maybe that means that current market conditions are more similar to those 5% failure cases than they are to the success cases.

So maybe you have a 95% chance at a 4% withdrawal rate overall. But it seems like if you retired today at a 4% withdrawal rate you'd have a greater than 95% chance exactly because the equity markets have been flat over the last 10 years. Conversely, if you retired after a decade of market runup, I think that 95% would give you a false sense of security.

If I weren't so lazy, I'd do some play around with some statistics and scatter plots of historic SWRs vs the cumulative returns over the 5 years prior to each retirement year.

 

[Canadian Grunt]

I thought I was entering ER this past April. Thankfully I am working P/T at my former employer through 6/30/09 and this has reduced the amount of portfolio reduction so far in year 1 by more than half.

Using April as my benchmark my portfolio stood at $1,040,000 with a 50/50 position of equities vs fixed assets. My draw was starting at $40,000 a year with 4% inflation factor, 30 year term, Soc. Security Income of $16K annually kicking in at 2019. (I don't think I need 40K but it allows for extras, 36K would be more normal).

I have not included the value of my house, owned outright, market analysis this past weekend of $215,000.

Fircalc returned a 100% and as I adjusted the portfolio value down it seemed there was a significant margin of safety before going under 100%.

6 months later my total portfolio with no change to AA by me now stands at just under 900K. Somewhere around $875K I start slipping into less than 100% probabilities.

I have not shaved even one year off the 30 years starting at a benchmark I set in April and my portfolio may not continue to show 100% certainty for much longer.

Is FireCalc something one should be using periodically throughout the year, or once a year or should it be fire and forget and keep my portfolio at the 50/50 AA at the start of each calendar year. Or is the answer none of the above.

Earlier this year as I was getting ready to start an ER I took some confidence that FireCalc showed I would have made it even if starting a retirement at the start of the Great Depression. Now I wonder.

I appreciate all thoughts on my scenario

There was a study that just came out that states a person retiring within the first year of a recession using a 4% withdrawal rate has a low portfolio survival rate. Below 20%. You were wise to keep working.

The study went on to state that after the first 5 years the survival rate of portfolios with a 4% withdrawal rate increases substantially.

It appears the first five years of retirement are critical in the fact that if the portfolio drops too much it will be very difficult to recover with withdrawals.

I will try to find the article and link it.


Edit:

here is the study from T Rowe Price.

http://www.troweprice.com/gcFiles/p...?src=Media_Near_or_In_Retirement&scn=Articles

 

[shotgunner]

FWIW

The S&P was down 17% from it's October '07 high when I thought I fired. Fortunately I didn't exit at the peak. My unexpected P/T job appears to be reducing my annual draw in year 1 to 2%.

Again, there was a significant margin of safety per FireCalc but the market's retraction since June 1 has eroded that.

I still think I will be OK and I have learned something about myself along the way and that is I enjoy a little part-time work and at this point I think I would always like to have my hand in something as long as it doesn't go beyond a 20 hour week commitment.

I appreciate all coments and ideas thus far and those yet to come, thank you.

 

[Rich_by_the_Bay]

Gotta remember that FC and other calculators are much better at thinking long term than most of us are. That dramatic difference between FIREing this month versus next due to market gyrations is dramatic only, in most cases, because we have a short-term perspective.

If you FIRE when the Dow is down this week, but it goes up by 20% next week, it feels huge. But move ahead 15 years or more and add in the hundreds of other gyrations that will take place, and that would be nothing more than a blip.

 

[cjking]

The paradox (flaw) in using firecalc, or the standard 4% rule, or any method that doesn't take valuations into account, is discussed in this report.

http://www.kitces.com/assets/pdfs/Kitces_Report_May_2008.pdf

 

[2B]

The biggest problem with all the calculators is that none of them can tell you when you'll die or go into an extended care facillity.

 

[shotgunner]

I remember a discussion with my advisor several years ago where he pointed out that planning my ER would be much easier if we knew when I would die.

To take some of the variables out of this in my case I decided the best approach was to be sure I had money to live the way I want until age 82. At that point I believe I will be OK should I need to be a ward of the state

 

[Kronk]

The paradox (flaw) in using firecalc, or the standard 4% rule, or any method that doesn't take valuations into account, is discussed in this report.

http://www.kitces.com/assets/pdfs/Kitces_Report_May_2008.pdf

Interesting read, and was exactly the type of thing I was thinking about. I poked around on his web site, found his blog, and was somewhat startled to see Rob Bennett's name pop up. Guess the guy might not be all wrong...

Interesting that a logical conclusion based on this type of research is that the minimum safe withdrawal rate from this is that the PE peak in the late 90's might reasonably result in a new historically low SWR.