How do you mitigate "sequence of retuns" risk early on?

[hnzw_rui]

Quote:

Originally Posted by Gone4Good Edit to add: I guess you'd have to model out how you replace those years of cash you draw down. That would mean higher portfolio WRs at some point. Or maybe you plan to never replace them.

Unless you choose % of portfolio method, the WR in FIRECalc is only for the initial withdrawal. With the inflation adjustment component, WR as percentage of remaining portfolio will go up as time passes if returns are less than the withdrawal.

That's actually what made 1966 so difficult. Because of runaway inflation, WR after just a few years was around 10% of the portfolio.

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Originally Posted by jimbee A person can do that, but it's like setting your clock ten minutes ahead so you're less likely to be late.

My mom actually does this.

Using buckets is mostly just mental but hey, whatever works and lets one sleep at night.

[Gone4Good]

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Originally Posted by Markola Do you know how FIRECalc handles target date, target allocation, and other self-balancing funds, including Wellesley?

I don't think FIRECalc provisions for balanced funds. It relies on you to tell it what you're asset allocation is and then works with that.

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Originally Posted by Markola By definition, a total return withdrawal strategy would require selling some shares across all asset classes in the fund in both upturns and downturns.

Perhaps an example will help . . .

I start with 1,000 split 60/40 between equity and debt.

Year 1: equities drop 20%, bonds are flat and I've drawn 4% from my cash position to live on. That leaves me with $480 in stocks and $360 in bonds for an equity allocation of 57.4%.

I've sold no equities during the downturn and will actually need to buy some stock to rebalance back to 60/40.

Year 2: equities go up 20%, bonds are flat, and I've drawn another $40 from cash. That leaves me with $605 in stocks, $296 in bonds for an equity allocation of 67%. Now I need to sell $64 in stocks (more than my annual withdrawal amount) to rebalance my portfolio back to 60/40.

In year one I effectively draw 100% of my cash needs from my bond portfolio. In year two I effectively draw 100% of my cash needs from the stock portfolio.

How much comes from each side depends on the relative performance of the underlying assets. That's how FIRECalc works.

[youbet]

Quote:

Originally Posted by Gone4Good +1 That works. Edit to add: I guess you'd have to model out how you replace those years of cash you draw down. That would mean higher portfolio WRs at some point. Or maybe you plan to never replace them.

Wouldn't you just put the "outside the portfolio" cash bucket on auto-refill? Each time it approaches zero, the cash fairy squirts in a new supply!

[Gone4Good]

Quote:

Originally Posted by youbet Wouldn't you just put the "outside the portfolio" cash bucket on auto-refill? Each time it approaches zero, the cash fairy squirts in a new supply!

Certainly you could do that or any of a variety of other schemes. But how you manage that bucket is going to effect how it impacts portfolio survivability.

If you're auto-refilling it when it reaches zero that means pulling a large chunk of cash out of your portfolio all at once. And because you're depleting that cash bucket during bad market times, it seems likely that you'll also be refilling it from a portfolio hit by those same bad markets. That could actually make things worse rather than better.

It's not clear to me what kind of advantage this provides over the standard rebalancing approach. Although it wouldn't surprise me if someone could model a clever strategy that seems to offer some benefit.

[FreeBear]

MrLoco,

What is your withdrawal rate before start of pension? In my mind this makes a big difference on your level of vulnerability to SOR.

We're at 4.5% for at least the next 5 years, then dropping to 3.5%, I hope. The 4.5% is on the outer edge of my comfort zone, so we are minding our asset allocation and actively trimming expenses.

We're at 50/38/12 (stock/bond/cash) AA. That amounts to 2.5 yrs cash (1% online savings account and short bonds). Once we get to SS and our SWR drops to 3% ish, we'll start a rising glide path towards 60% equities.

I hate holding 2+ yrs. in cash, but bond returns are poor and I like to sleep at night.

FB

[hnzw_rui]

Quote:

Originally Posted by Gone4Good Certainly you could do that or any of a variety of other schemes. But how you manage that bucket is going to effect how it impacts portfolio survivability. If you're auto-refilling it when it reaches zero that means pulling a large chunk of cash out of your portfolio all at once. And because you're depleting that cash bucket during bad market times, it seems likely that you'll also be refilling it from a portfolio hit by those same bad markets. That could actually make things worse rather than better. It's not clear to me what kind of advantage this provides over the standard rebalancing approach. Although it wouldn't surprise me if someone could model a clever strategy that seems to offer some benefit.

One could refill the cash bucket only during up years.

[RetireAge50]

About to retire next year. Pension covers half of expenses. Portfolio the other half. Portfolio also covers another 50% of expenses as goof around money. Plan to stay about 75% stocks and in a bad sequence will just cut back on the goofing around.

[heyyou]

We retired in 2005 with a buffer of cash. As tightwads, we just spent less during 2008-9 by watching expenses, traveling less, eating out less often. Currently with 35% in bonds, next time we will just sell from them. As mentioned by others, don't sell from the assets that have depressed prices.

SOR is mostly a risk for those who have no room to adapt to less than steady market returns. We like retirement so well that staying home is okay with us, and we live in a LCOL area so we can live on 3% of portfolio value annually while we are waiting to start SS at age 70. We can adapt as needed.

[youbet]

Quote:

Originally Posted by Gone4Good If you're auto-refilling it when it reaches zero that means pulling a large chunk of cash out of your portfolio all at once. And because you're depleting that cash bucket during bad market times, it seems likely that you'll also be refilling it from a portfolio hit by those same bad markets. That could actually make things worse rather than better. It's not clear to me what kind of advantage this provides over the standard rebalancing approach. Although it wouldn't surprise me if someone could model a clever strategy that seems to offer some benefit.

No, no, no....... You aren't taking me literally enough G4G. When I said "the cash fairy squirts in a new supply!" I meant "the cash fairy squirts in a new supply." The same cash fairly that gave you the cash to hold "outside your portfolio" just gives you some more. You don't take cash out of your portfolio. Just get it from the cash fairy.

Got it?

Personally, I don't believe that there is such a thing as "cash outside a portfolio." If it's something you control and can spend, it's in your portfolio. You've just got a different name on it. It's semantics. And I don't believe in holding much true cash (under 1%) although I do hold a 45% fixed allocation.

I retired mid-2006 right into the 2008 - 2009 debacle and fought off SOR monsters by spending divs and int from the taxable portion of the portfolio and a couple of CD's as they matured.

[Ken11]

On average holding cash decreases portfolio returns
So, rather than go above about 5% cash i hold a home equity line of credit on my paid for house.
If equities really tank ill live on my home equity. Being leveraged by a few years worth of income seems like a good bet in this circumstance. This would have worked wonderfully in 08-09i if i had been retired at that time

[Markola]

OK, though that's a risk trade, too. HELOCs are subject to requalification on the bank's terms and if housing prices plunge at the same time you are borrowing for living expenses, one could see the HELOC called or at least the interest rate skyrocket. I'm not that much of a gambler, personally, but YMMV.

[Gone4Good]

Quote:

Originally Posted by Markola OK, though that's a risk trade, too.

Heh, heh, heh, heh, isn't it all?

Of course the more clever we get with our strategies the more likely we'll run into risks we didn't even know existed.

[bmcgonig]

Quote:

Originally Posted by Markola OK, though that's a risk trade, too. HELOCs are subject to requalification on the bank's terms and if housing prices plunge at the same time you are borrowing for living expenses, one could see the HELOC called or at least the interest rate skyrocket. I'm not that much of a gambler, personally, but YMMV.

That happened in 2008 apparently. Lots of HELOCs got cancelled. Read an article recently recommending a reverse mortgage LOC for just that reason, as they can't be cancelled.


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[rodi]

I took a HELOC out right after retiring. I have no plans on drawing for it. I also think there's little likelyhood of them withdrawing the HELOC before the period (10 years?) is up since it's on a paid for SoCal house and we have no other debt.

My thinking is that it could provide income smoothing for tax purposes... If we have a big expense that is more than our cash reserve - we could spread it over 2 tax years to lesson the tax hit. (Much of our funds are in tax advantaged accounts).

[Fedup]

I had a HELOC in 2000, large amount that allowed me to think clearly and not panicked. I never did use it so it was closed in 2008-2009 time frame. Now I have another large HELOC that would cover at least 10 years of additional expense so I can sleep easily. My expenses are cover 95-99% by pensions/SS/ rental income.
I have my HELOC from PenFed.


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[marko]

Quote:

Originally Posted by Gone4Good Heh, heh, heh, heh, isn't it all? Of course the more clever we get with our strategies the more likely we'll run into risks we didn't even know existed.

K.I.S.S.!

I have my dividends (and sometimes cap gains) sequestered in a separate low risk account. Three years worth. Don't have to worry about "a bad time" to sell equities.

We draw our expenses from that with twice a year transfers to checking but never more than about 3%.

+1 on G4G's earlier comment on Firecalc's 4% SWR. The "S" stands for SAFE!

[Chuckanut]

I think the real tool to have in case the market tanks in the first 5-7 years of retirement is minimal mandatory spending obligations. IOW, not a lot of debt or financial commitment. In this way one can cut spending to help ride out the storm.

The other tool is to consider one of the variable withdrawal methods mentioned in other threads of this group. These methods tend to help one smooth over the ups and downs of the market. The idea is that in a down time, one ratchets down spending to preserve capital, but in such a way that drastic changes in spendable cash funds are minimized. And, in up years it allows one to increase spending, enjoy the fruits of one's investments, while not over spending to the point of risking failure if when the market goes down again.

[pb4uski]

Quote:

Originally Posted by Ken11 On average holding cash decreases portfolio returns So, rather than go above about 5% cash i hold a home equity line of credit on my paid for house. If equities really tank ill live on my home equity. Being leveraged by a few years worth of income seems like a good bet in this circumstance. This would have worked wonderfully in 08-09i if i had been retired at that time

While I concede that holding cash depresses portfolio returns, at least in my case and I suspect many others, the impact is not very significant.

For example, my AA is 60/34/6. Let's say that nominal returns are 7%, 4% and 1% respectively. My AA has a weighted average return of 5.62% and a 60/40/0 has a weighted average return of 5.80% so the drag of 6% cash is only 18 bps but the peace of mind is worth the cost IMO. That 6% cash, along with taxable account dividends would support our living expenses for 2-3 years if necessary.

[Ken11]

Quote:

Originally Posted by pb4uski While I concede that holding cash depresses portfolio returns, at least in my cash and I suspect many others, the impact is not very significant. For example, my AA is 60/34/6. Let's say that nominal returns are 7%, 4% and 1% respectively. My AA has a weighted average return of 5.62% and a 60/40/0 has a weighted average return of 5.80% so the drag of 6% cash is only 18 bps but the peace of mind is worth the cost IMO. That 6% cash, along with taxable account dividends would support our living expenses for 2-3 years if necessary.

At 6% cash you and i agree on the minimal impact on returns
Thats about my limit.
The 18bps is a certain cost year by year
I might never have to pull the trigger on my home equity line

[pb4uski]

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Originally Posted by Ken11 ...I might never have to pull the trigger on my home equity line

True, but OTOH it might not be there when you most need it. That happened to some people during the financial crisis.