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Growth VS Income
Old 02-26-2021, 04:50 PM   #1
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Growth VS Income

So traditional thinking, (depending on RT), is that you have an 80/20 AA until you get closer to retirement, than shift gradually into an AA of more bonds and less stocks for a less volatile portfolio.
Recently, I was reading how ideally you want your portfolio to create an income that will cover, or at least come close to, your expenses for the year. This way you are not drawing down on your principal.

Are these two different types of strategies or is the second, just a continuation of the change in AA? If so, what types of investments make up a good income stream that would cover your annual expenses?

Also, does ERing (55 & under) change this whole way of thinking, since your funds will have to last potentially 40+ years. In which case you should keep more stocks in your AA than traditional thinking says?

I would love to hear the theories, thoughts and strategies of those that have been there and doing this. Thank you for your insight and experience.
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Old 02-26-2021, 05:13 PM   #2
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Most folks here do not adhere to the idea of not drawing down the principal. this school of thought holds that money is fungible and therefore if you haven't a dividend of 2% and a total return of 8% drawing down 4% should not be a problem as money is fungie

On the other hand in that same case your funds at the dividend rate will be half what they would at what most folks view as a safe withdrawal rate. So if you insist on Not invading the principal, it will mean a lower withdrawal rate for a given portfolio.Or it may mean you stretch for yield and therefore take on needless risk.

However for a minority of folks here it is a very passionate belief that you should never invade the principal, although their definition of what comprises the principal may vary.

As far as safe withdrawal rate theories, if you have a longer retirement period you'll generally want a lower withdrawal rate in order reduce risk over that longer withdrawal period

So for example instead of a 4% withdrawal rate as all the studies suggest for a 30 year retirement, you might want to go with 3.5 3.2 or some other rate depending on your aversion to risk, and how long you wish to work and continue saving.

You're definitely asking the right questions, and I'm sure some other folks will be along to answer them possibly differently than I have.

In any event, best of luck to you.
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Old 02-26-2021, 05:22 PM   #3
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Are these two different types of strategies
You're right that there are two different things going on that are sort of related: risk and living off your portfolio.

Obviously if you don't need to live off your portfolio, you can take more risk without potential consequences.

The main idea is that a lower stock allocation means both a lower draw-down and a quicker recovery. When you care about that is somewhat age-dependent.

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Also, does ERing (55 & under) change this whole way of thinking, since your funds will have to last potentially 40+ years. In which case you should keep more stocks in your AA than traditional thinking says?
Yup. ER potentially changes quite a bit. You're less worried about short-term recovery than you are about long-term survival. Thus FIREcalc.
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Old 02-26-2021, 05:46 PM   #4
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So traditional thinking, (depending on RT), is that you have an 80/20 AA until you get closer to retirement, than shift gradually into an AA of more bonds and less stocks for a less volatile portfolio.
I don't think AA this way. Volatility early in retirement can be more disruptive because the early changes are carried over many years. I think of AA as a means for me to manage the risk of selling low or buying high. By having a fixed AA, when the market has high enough volatility to induce me to do something about it, my plan say to rebalance to my specified AA. This results in selling stocks high (or buying stocks at a low) relative to the market when I set my AA (or last rebalanced).

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Recently, I was reading how ideally you want your portfolio to create an income that will cover, or at least come close to, your expenses for the year. This way you are not drawing down on your principal.
If you don't draw down your principal, you'll be leaving it to your heirs, and require a much larger principal for a given income. Going this route would require more working years, but it is a perfectly viable route if you want to leave money to heirs.

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Are these two different types of strategies or is the second, just a continuation of the change in AA? If so, what types of investments make up a good income stream that would cover your annual expenses?
I think they are two different goals... one plans on leaving principal to heirs while the other doesn't (though could still result in a healthy inheritance dependent on market returns).

Quote:
Originally Posted by Yoheadden View Post
Also, does ERing (55 & under) change this whole way of thinking, since your funds will have to last potentially 40+ years. In which case you should keep more stocks in your AA than traditional thinking says?

I would love to hear the theories, thoughts and strategies of those that have been there and doing this. Thank you for your insight and experience.
It doesn't for me. The conventional reason to increase bond % with age is so that you don't have to sell depreciated stock to live on. So your living expenses determine how much in bonds and cash you need to have on hand, enough to last you through the next stock market correction.
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Old 02-27-2021, 05:29 AM   #5
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Originally Posted by Yoheadden View Post
So traditional thinking, (depending on RT), is that you have an 80/20 AA until you get closer to retirement, than shift gradually into an AA of more bonds and less stocks for a less volatile portfolio.
Recently, I was reading how ideally you want your portfolio to create an income that will cover, or at least come close to, your expenses for the year. This way you are not drawing down on your principal.

Are these two different types of strategies or is the second, just a continuation of the change in AA? If so, what types of investments make up a good income stream that would cover your annual expenses?
I think you're asking about the difference between a total return approach vs dividend investing. This debate occurs often.

Personally, I suggest total return. There is absolutely nothing wrong with selling shares to cover expenses.

Some reading for you:
https://www.bogleheads.org/forum/viewtopic.php?t=298728
https://www.bogleheads.org/forum/viewtopic.php?t=276554
https://www.bogleheads.org/forum/viewtopic.php?t=245558
https://www.bogleheads.org/forum/viewtopic.php?t=166971
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Old 02-27-2021, 06:02 AM   #6
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Yes, this is all about emotion. Dividends are not magic money, they are equivalent to a forced sale of stock. The value of your remaining stock goes down by value of the dividend received.

It's just harder emotionally to actually hit the sell button on your stock than it is to get the dividend, but they are functionally the same.
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Old 02-27-2021, 07:03 AM   #7
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I think they are two different goals... one plans on leaving principal to heirs while the other doesn't (though could still result in a healthy inheritance dependent on market returns).
For us, it has nothing to do with heirs but more about not running out of money in old age.


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Yes, this is all about emotion. Dividends are not magic money, they are equivalent to a forced sale of stock. The value of your remaining stock goes down by value of the dividend received.

It's just harder emotionally to actually hit the sell button on your stock than it is to get the dividend, but they are functionally the same.
This is true. But if given the choice between a growth stock/fund with zero dividend and a flatter stock with a nice dividend I'd rather go the latter. YMMV of course.

We haven't sold a single share in 15 years but have lived quite nicely off dividends and MF cap gains (and SS), yet our portfolio value has almost doubled in that time.

What I'd hate to see would be for a non-dividend growth stock to be depleted to the point of one share having to support us at 87 years old! A sold share is gone forever. A share derived from dividends leaves the original share to grow back from its new, lower price. Eat the chicken or her eggs?

Of course, there are stocks that have both growth and dividends which is ideal.

Yes, it is emotional and a bit of mental gymnastics, but for us we sleep at night with the illusion!
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Old 02-27-2021, 07:39 AM   #8
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We are in the "money is fungible" camp. For us, we have mostly IRA's containing no individual stocks. Dividends from those IRA mutual funds are automatically reinvested. Then we sell off the mutual funds as needed/wanted. If we need/want less $ than the dividends were, then we have more funds. If we need more $ than the dividends were, then we would have to sell off the funds anyway and end up with less shares. Same - same for us. The bottom line is dividends will never exactly equal the needs/wants.

Fortunately, we won't have to worry about that for some time when RMDs exceed our needs and we will have be building up the taxable accounts. Whatever helps one sleep at night is the best for them I guess.
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Old 02-27-2021, 07:39 AM   #9
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For us, it has nothing to do with heirs but more about not running out of money in old age.




This is true. But if given the choice between a growth stock/fund with zero dividend and a flatter stock with a nice dividend I'd rather go the latter. YMMV of course.

We haven't sold a single share in 15 years but have lived quite nicely off dividends and MF cap gains (and SS), yet our portfolio value has almost doubled in that time.

What I'd hate to see would be for a non-dividend growth stock to be depleted to the point of one share having to support us at 87 years old! A sold share is gone forever. A share derived from dividends leaves the original share to grow back from its new, lower price. Eat the chicken or her eggs?

Of course, there are stocks that have both growth and dividends which is ideal.

Yes, it is emotional and a bit of mental gymnastics, but for us we sleep at night with the illusion!
Ever hear of stock splits?

Ever hear of companies that cut or stopped paying dividends?
https://www.nasdaq.com/articles/here...ck-buybacks-in is a recent list. Some have resumed, some have not, some might never resume.
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Old 02-27-2021, 08:16 AM   #10
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.... Recently, I was reading how ideally you want your portfolio to create an income that will cover, or at least come close to, your expenses for the year. This way you are not drawing down on your principal. ...
I personally think that is a totally flawed premise. For example, let's say that you have a $1 million portfolio, a 4% WR and that during the year the portfolio grows from $1 million to $1,080k from $20k of interest and dividends and $60k of price appreciation. If you withdraw $40k from the $1,080k... have you withdrawn principal? You've definitely withdrawn more than income... is that a cardnial sin? Even after the withdrawal the portfolio is $40k higher than a year ago, so what's the problem with that? It's silly.

As others have said, money is fungible. With a 4-5% WR in most years the portfolio growth from interest, dividends and appreciation will exceed withdrawals so the portfolio will grow. There will be years where withdrawals will exceed growth and the portfolio will decline slightly. that's just the way it works.

Also, keep in mind that AA has negligible impact on risk of ruin but more impact on terminal values... note in the graph below that success ratios are very similar from 50/50 to 90/10.
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File Type: png FIRECalc AA graph.png (72.1 KB, 60 views)
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Old 02-27-2021, 08:50 AM   #11
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Another problem with a dividend strategy is not only does it result historically in poorer performance versus a total return strategy also it forces one to realize income which is a downside if they've FIREd pre-Medicare and are now trying to "manage" mAGI for maximum ACA subsidies.
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Old 02-27-2021, 09:00 AM   #12
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For us, it has nothing to do with heirs but more about not running out of money in old age.




This is true. But if given the choice between a growth stock/fund with zero dividend and a flatter stock with a nice dividend I'd rather go the latter. YMMV of course.

We haven't sold a single share in 15 years but have lived quite nicely off dividends and MF cap gains (and SS), yet our portfolio value has almost doubled in that time.

What I'd hate to see would be for a non-dividend growth stock to be depleted to the point of one share having to support us at 87 years old! A sold share is gone forever. A share derived from dividends leaves the original share to grow back from its new, lower price. Eat the chicken or her eggs?

Of course, there are stocks that have both growth and dividends which is ideal.

Yes, it is emotional and a bit of mental gymnastics, but for us we sleep at night with the illusion!
I think you are right about the gymnastics. I like dividend stocks also but for a different reason: you can't fake dividends as they're paid out of cash.

You know another way of thinking about your view, is you have a very low withdrawal rate. Stated differently, your withdrawal strategy is very conservative (not a criticism).

I'm just not sure why you view shares as your measure of principal. The original corpus of your nest egg is in essence the principal. I can more easily see a strategy of not wanting to invade the corpus.

In any event, it's always an interesting discussion. The most important thing as you point out is not to run out of money and conservatism can certainly help meet that goal.The trade-off of course is you have to work longer.
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Old 02-27-2021, 10:28 AM   #13
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... The original corpus of your nest egg is in essence the principal. I can more easily see a strategy of not wanting to invade the corpus. ...
Even there IMO it gets sticky -- isn't the corpus really the original buying power of the nest egg, not its nominal value?

I have a friend, otherwise a very bright guy, who invests almost solely in bonds and spends only the interest. He also talks about protecting principal. But part of each interest payment that he spends includes compensation for inflation. By spending it, he is preserving only the nominal value of his bonds. IOW letting them depreciate.
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Old 02-27-2021, 10:47 AM   #14
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I'm just not sure why you view shares as your measure of principal. The original corpus of your nest egg is in essence the principal. I can more easily see a strategy of not wanting to invade the corpus.
I don't really view share as the measure of principal, except only that the number of shares define the principal via their price.

To me, dividend dollars are paid are a result of the number of shares, not the share price. The principal's (shares) price goes up and down, but -- generally -- the dividends (income) stay the same as a result of the number of shares regardless of price.

[After thinking about it....]
Maybe the flaw in my thinking is that I don't view my starting balance (20 years ago) as my "principal" but my most recent balance, as defined as shares X price. Maybe if I viewed my "never touch the principal" from my original starting balance/number of shares, I'd see things more clearly (??) Have I been talking/listening past you-all all this time?

Am I having a breakthrough right in front of your eyes or am I getting further out in the weeds?!
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Old 02-28-2021, 10:53 AM   #15
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I think this is a good point about principal, that I overlooked in my earlier response. If you're invested in stocks and bonds, what part is the principal? and if that part is expected to change in value, then the term "principal" isn't quite right since we expect principal to be fixed...
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Old 02-28-2021, 11:11 AM   #16
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I think this is a good point about principal, that I overlooked in my earlier response. If you're invested in stocks and bonds, what part is the principal? and if that part is expected to change in value, then the term "principal" isn't quite right since we expect principal to be fixed...
I've been struggling with this since yesterday. Is principal what you started with way-back-when or what it is valued at now?

For me, it is the latter and income derived off of that is the 'income' part.

I'm wondering if I've had it wrong all along, which might explain why I've been unable to get my head around the 'total return' concept. I'm not stupid but I can be hard-headed!
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Old 02-28-2021, 11:24 AM   #17
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... For me, it is the latter and income derived off of that is the 'income' part. ...
OK, I'll move the ball back over the net with a simple hypothetical:
The principal is one bond paying 3% of its market value, which does not fluctuate. Inflation is 2%. Is "income" the left-over 1% or is it the whole 3%?
This is actually a real debate in a nonprofit's investment committee I'm on: If we got a bequest ten years ago that was $100K, is that still the "principal?' By the terms of the bequest we can only spend the "income." Assume the $100K has grown over the ten years.
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Old 02-28-2021, 11:37 AM   #18
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OK, I'll move the ball back over the net with a simple hypothetical:
The principal is one bond paying 3% of its market value, which does not fluctuate. Inflation is 2%. Is "income" the left-over 1% or is it the whole 3%?
This is actually a real debate in a nonprofit's investment committee I'm on: If we got a bequest ten years ago that was $100K, is that still the "principal?' By the terms of the bequest we can only spend the "income." Assume the $100K has grown over the ten years.
With this example, I'd say that $100K is the principal and any income derived from it is income. Not sure how to deal with inflation (add it to the starting principal??) but this is giving me a whole lot to think about!

My blind-spot seems to come from my grandparents and implied/actual inheritances. In their world the principal was what you received--perhaps via a trust--and "never touched" and only spent the returns.

Thank you for this...still noodling.
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Old 02-28-2021, 11:38 AM   #19
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I was 100% stocks until retirement. Then I ended up eventually at 75% stocks. There is one fundamental difference between accumulation and retirement and that is that you are withdrawing money from the portfolio. That convinced me to add some bonds. And it has been a good choice. I don't feel like I'm sacrificing a lot of potential stock gains, but I can sell bonds if I need money when stocks are down.

I invest without worrying about income. I'd rather be without portfolio distribution income at tax time. I just sell shares as needed to fund retirement. That has been about 6% of the portfolio per year. And the portfolio has still grown about 50% anyway.

While it is certainly possible to "draw down your principal", that is not usually what happens with average market conditions. Normally you'll end up with way more than you started with.

I'll be back down to 3% withdrawals or so after SS starts up for us in a few years. I certainly can't recommend 6% throughout retirement, but short bursts can be managed without depleting the portfolio under average or better conditions.
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Old 02-28-2021, 11:41 AM   #20
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I've been struggling with this since yesterday. Is principal what you started with way-back-when or what it is valued at now?

For me, it is the latter and income derived off of that is the 'income' part.

I'm wondering if I've had it wrong all along, which might explain why I've been unable to get my head around the 'total return' concept. I'm not stupid but I can be hard-headed!
If you want your income to grow with inflation I think you need to have your principal grow with inflation. Then your income should stay roughly the same percentage of your portfolio. That seems sustainable.
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