How to calculate safe withdrawal rate for early retirement

[Closet_Gamer]

Yeah, the "bulletproof" retirement plan still hasn't been invented.

They have well discussed downsides, but a way to add another layer of kevlar is an immediate (or deferred) income annuity.

Provided you buy it from the right insurer, you then need very large companies to go under AND the government to sit on its hands to lose that income. We saw part one start to come true in 2008 with the potential blast radious around AIG, but the government back stopped it and everyone was fine.

There is always the "asteroid hits the planet" scenario but a combo of income annuities & SS should be pretty bullet proof.

I'm not arguing for these types of annuities but I continue to be intruiged by them. Particulary if they allow you to rewire the remainder of assets into a more aggressive AA because the underlying core income stream is secured.

 

[FLSUnFIRE]

I'm about to pull the plug at 47 and will likely never have the same income opportunities (and most definitely have enough to last till I will be irrelevant/unable/unwilling to work) so need to be conservative as I walk away from golden handcuffs.


I've played around a bit and one thing I like to do since I have a long horizon is to run Firecalc back to back (more samples as there are more 20-30 year periods than 50 year periods) using a 20-30 year span and taking the lowest ending value from the preceding run to start the next. (basically seeing how I'd fare if I pulled the plug with back to back worst scenarios in the historical record)


I've also started playing around with much shorter periods with portions of my portfolio (taxable until pension, SS etc kick in). That's more of a mental game but helps to give me some confidence I can make it and "wargame" different approaches I can take to maintain liquidity/manage taxes.



Definitely play around with the "investigate" tab on firecalc as well!

 

[thepalmersinking]

Looking at portfoliovisualizer.com which uses real data going back to 1984 is a reliable test, you can take a real test drive. I used $3MM portfolio and took out 6% with inflation adjustment. I need with a current portfolio of $16MM. I used AWSHX, an old mutual fund with history going back to the 1950’s. Unless I am missing something, that is 37 years of boom and bust and falling interest rates. It’s real data using a crappy mutual fund. You can use the visualizer to see the ups and downs.

Is this too simplistic a backrest that 4% is too conservative?

 

[Dtail]

Looking at portfoliovisualizer.com which uses real data going back to 1984 is a reliable test, you can take a real test drive. I used $3MM portfolio and took out 6% with inflation adjustment. I need with a current portfolio of $16MM. I used AWSHX, an old mutual fund with history going back to the 1950’s. Unless I am missing something, that is 37 years of boom and bust and falling interest rates. It’s real data using a crappy mutual fund. You can use the visualizer to see the ups and downs.

Is this too simplistic a backrest that 4% is too conservative?

Well remember that the concept of the 4% is due to the worst starting time results in history to retire (1966).
IIRC, the average WR is around 6.5% , but due to sequence of returns risk, the 4% becomes the starting point.

 

[Markola]

I've seen various articles suggesting a safe withdrawal rate of 3% to 4% but I presume this is on the basis you retire at 67 (or thereabouts).



How do I calculate a safe withdrawal rate for an earlier retirement. For example retiring at 50? I know the rate will reduce but not sure how to calculate what to.



Thanks in advance for any help.

OP, reading these many sage, experienced responses, it strikes me that you need a clearer goal. Do you want your investment portfolio to never run out or are you interested in a comprehensive plan to ensure your retirement success?

Those are two very different things, requiring different strategies and toolkits, because the former is just a component of the latter.

 

[DrRoy]

RE at 57. 3% is my personal max, but we're only spending about 2.5% in a mildly fat FIRE.

 

[chassis]

Thanks for the replies. I'll look at the calculator

Portfoliovisualizer has a portfolio success calculator that I like better than firecalc. The interface is more usable in my view and the results are presented more clearly.

Furthermore, I like the GARCH method to model future returns. It seems more robust in my view. It addresses the much-feared sequence of returns risk better in my view. No future market pullback will be preceded, or followed, by a market exactly like any prior event. The GARCH model works this way. Historical returns are just that, a historical sequence of actual returns. Not useful in my view.

As an example, in mid-2019, a person who was modeling future portfolio success based on historical returns would likely never have thought that a 30%+ market pullback would be followed by indices at all time highs less than 12 months later. That is exactly how 2020 played out. GARCH handles this better.

GARCH: https://www.investopedia.com/terms/...approach,bonds, and other investment vehicles.

 

[Out-to-Lunch]

Portfoliovisualizer has a portfolio success calculator that I like better than firecalc. The interface is more usable in my view and the results are presented more clearly.

Furthermore, I like the GARCH method to model future returns. It seems more robust in my view. It addresses the much-feared sequence of returns risk better in my view. No future market pullback will be preceded, or followed, by a market exactly like any prior event. The GARCH model works this way. Historical returns are just that, a historical sequence of actual returns. Not useful in my view.

As an example, in mid-2019, a person who was modeling future portfolio success based on historical returns would likely never have thought that a 30%+ market pullback would be followed by indices at all time highs less than 12 months later. That is exactly how 2020 played out. GARCH handles this better.

GARCH: https://www.investopedia.com/terms/...approach,bonds, and other investment vehicles.

I appreciate these comments, and would like to know more. It was not clear to me if there is an accessible way to include the GARCH approach in modeling. I.e., does Portfoliovisualizer or another available tool utilize GARCH?

 

[chassis]

@Out-to-Lunch

Not sure if the link below takes you directly to the model, the portfoliovisualizer site behaves weird in my experience.

In case the link takes you into the weeds, you want: Examples --> Monte Carlo Simulation --> View Example --> Simulation Model:statistical returns --> Time Series Model:GARCH --> enter the rest of your data and click Run Simulation

https://www.portfoliovisualizer.com...&asset2=TreasuryNotes&asset1=TotalStockMarket

 

[audreyh1]

Mathematically that's true, but really, you could be down to $100, and VPW will allow you to take slivers of that each year without ever going to zero. There's no magic here, VPW can fail, in practical terms. As I said earlier, I use VPW, but I don't believe it is bulletproof.

Depending on the AA, I think it’s more like you might drop to 50% or 40% of your inflation adjusted portfolio value under historical worst case sequences. The VPW spreadsheet gives you this “max drawdown” value.

So yes, you might experience a large drop in income, but not likely down to $100.

 

[Retire2023]

I have never used the portfolio visualizer site before, but am intrigued. I started filling in the blanks, but got stuck on what to put in for the "Mean" percentages for allocation of each asset class. This is probably pretty basic, but could someone please expain what/how this is used? Many thanks!

 

[youbet]

A stronger reason, IMO, to use a lower SWR when deciding when to retire is that one can't be certain they've estimated their expenses correctly. Higher medical expenses, more home repairs, an unexpected family situation, or high personal inflation are just some of the things that can cause the need for higher withdrawals. A planned 3-3.5% WR gives a lot more buffer than 4%.

But isn't using a lower WR just one part of a "safer" plan?

You really need to:

1. Aim for a sub-4% WR.
2. Overstate planned expenses by a lot.
3. Understate income such as pensions or SS by a lot.
4. Figure on living to 120.
5. Assume some black swan event (divorce, lawsuite, uninsured disaster, deserving child desperately needs financial help, etc.) hits you for all or most of your FIRE portfolio.
6. Begin with a huge "cash buffer" you don't include in portfolio survive-ability calculations.


And so on and so forth......... FireCalc will account for all the above if entered (or not entered) as appropriate. It's belt and suspenders ya know!

My own opinion is that the biggest threat to a (more or less) 4% WR turning out to be a SWR is your AA. I question how many folks really hold to the AA they enter into FireCalc. For example, some of our forum members feel they have "won the game" and hold a zero, or near zero, equity AA. In their case, the standard "4% for 30 years" advise is totally off the table. It's not wrong to hold zero equities, but be sure you understand the outcomes that would have produced historically through FireCalc and decide if you want to continue to assume the future will behave similarly to the past.

 

[RetiredAt55.5]

My own opinion is that the biggest threat to a (more or less) 4% WR turning out to be a SWR is your AA. I question how many folks really hold to the AA they enter into FireCalc. For example, some of our forum members feel they have "won the game" and hold a zero, or near zero, equity AA. In their case, the standard "4% for 30 years" advise is totally off the table. It's not wrong to hold zero equities, but be sure you understand the outcomes that would have produced historically through FireCalc and decide if you want to continue to assume the future will behave similarly to the past.

I recall some members doing the "won the game, take it off the table", but I think some of them were older and figured they were quite a bit into their 30 years already.

Another approach since the market has been so good since some retired, is to keep their AA but only keep their original retirement amount in this AA. The gains since retirement could be put taken off the table and put in something safer. This isn't my approach, but it's something I think about since I'm up over 60% since retiring 5 years ago. I do wonder about still applying my WR to my initial retirement balance given the gains, or whether I should apply some variable logic to a portion of the current balance. Or my kids will be BTD for me someday.

 

[Out-to-Lunch]

@Out-to-Lunch

Not sure if the link below takes you directly to the model, the portfoliovisualizer site behaves weird in my experience.

In case the link takes you into the weeds, you want: Examples --> Monte Carlo Simulation --> View Example --> Simulation Model:statistical returns --> Time Series Model:GARCH --> enter the rest of your data and click Run Simulation

https://www.portfoliovisualizer.com...&asset2=TreasuryNotes&asset1=TotalStockMarket

Thank you! I don't think I would have found it by myself!

 

[youbet]

Another approach since the market has been so good since some retired, is to keep their AA but only keep their original retirement amount in this AA. The gains since retirement could be put taken off the table and put in something safer .

Any scheme could work depending on how the markets go over the years. My point is that if you do something like you suggested you do need to keep in mind that your FireCalc runs are no longer relevant. FireCalc assumes you start with an AA of your choice and then you re-balance (including gains) to keep it there.

Ie., be aware of how the model works and that if you don't behave like the model (inputs or algorithms) as you go through the years, don't expect the historical outcomes to necessarily include your actual result.

 

[RetiredAt55.5]

Any scheme could work depending on how the markets go over the years. My point is that if you do something like you suggested you do need to keep in mind that your FireCalc runs are no longer relevant. FireCalc assumes you start with an AA of your choice and then you re-balance (including gains) to keep it there.

Ie., be aware of how the model works and that if you don't behave like the model (inputs or algorithms) as you go through the years, don't expect the historical outcomes to necessarily include your actual result.

Yes, I agree with that.

OTOH, one could always reset to a new 30 year period, based on re-running FireCalc with a new balance. That should give one a new confidence level, based on the updated numbers.

 

[RobbieB]

I have never understood this line of thought. As long as you're happy, what does it matter that you're not spending as much as you could?

Spending more makes me happier.

First class make me happier than coach. Wagyu makes me happier than choice. Sushi grade fish makes me happier than grocery store fish. Hotels with a jacuzzi in the room and an ocean view make me happier than the holiday inn with a view of the parking lot.

 

[Koolau]

Spending more makes me happier.

First class make me happier than coach. Wagyu makes me happier than choice. Sushi grade fish makes me happier than grocery store fish. Hotels with a jacuzzi in the room and an ocean view make me happier than the holiday inn with a view of the parking lot.

I'm happy for you, knowing exactly what makes you happy. It is a gift to know your own mind and heart.

For many years, I assumed this would be true for me - spending on luxuries now that I could afford them. When the chance came (not so much the fish - but, say, flying first class) I found I got more enjoyment out of helping my friend fly first/bus class so she would not need to worry about blood clots. For me, flying first class would be nice (I've been kicked up there a couple of times) but PAYING for it takes the fun away. It's my particular personal quirk I guess. Having said that, I'm seriously considering a better travel class if I get a chance to fly this summer. Check back in these pages to see if I actually pull the trigger. I know I've said this before, so I guess we'll see.

 

[RunningBum]

But isn't using a lower WR just one part of a "safer" plan?

You really need to:

1. Aim for a sub-4% WR.
2. Overstate planned expenses by a lot.
3. Understate income such as pensions or SS by a lot.
4. Figure on living to 120.
5. Assume some black swan event (divorce, lawsuite, uninsured disaster, deserving child desperately needs financial help, etc.) hits you for all or most of your FIRE portfolio.
6. Begin with a huge "cash buffer" you don't include in portfolio survive-ability calculations.

7. Plan on a higher income tax rate in the future.

To some extent I do most of these, but not to an extreme.
1. Yes.
2. No, figuring < 4% WR covers this
3. SS yes, I take a 35% (up from 25%) haircut on that. Pension, no.
4. Not 120. At 94 my VPW plan gives the highest withdrawal, after that I start taking less. Should be fine to at least 100.
5. Not sure I call these black swan events. But to address those, I'm not married and unlikely to ever remarry. I have umbrella insurance. I've factored in gifting the max I can for my son without having to report. I'll deal with any others I hit if I have to but there's no way to plan for an event that wipes out everything.
6. No
7. I use the old tax rates that are set to resume in 2026, and figure all of my SS will be taxed rather than 85%.

Some people sleep better with a paid off house. Some people sleep better with a nearly bulletproof retirement. I'm in the 2nd group.

And so on and so forth......... FireCalc will account for all the above if entered (or not entered) as appropriate. It's belt and suspenders ya know!

IF is the key here. I see some potential retirees talk about tracking their last two years of expenses and using that, without taking into account that they didn't replace their car, make large home repairs, take a big vacation that they'd like to do when they have more time. FireCalc is only as good as the data you enter.

My own opinion is that the biggest threat to a (more or less) 4% WR turning out to be a SWR is your AA. I question how many folks really hold to the AA they enter into FireCalc. For example, some of our forum members feel they have "won the game" and hold a zero, or near zero, equity AA. In their case, the standard "4% for 30 years" advise is totally off the table. It's not wrong to hold zero equities, but be sure you understand the outcomes that would have produced historically through FireCalc and decide if you want to continue to assume the future will behave similarly to the past.

You may be right. My sense of the "won the game" people is that they could live on 2% or less. I never got the sense that someone taking 4% + inflation has gone all cash. I could be wrong. Where I think AA issues come is that some will panic sell after a crash, and then not get back in after a recovery. Or any other bad market timing choices.

I was going to say that underestimating expenses is the biggest threat in retirement, but I think you're onto something with veering away from their AA.

 

[Koolau]

Wow, if I'd ever known there were 6 or 7 rules, I probably would never have retired. I basically picked 5 (now) VERY low-cost MFs and balanced with bond equivalents (SPDAs, a GIF, I-Bonds, etc.) and a few PMs. I figure NW once a year, whether I need to or not. I go as high as 6% WDR when I rehab a house or low as 2+% (spending, not withdrawal - my charities did very well this year) when there is a Covid crisis to curtail spending. If it's too complicated, I probably won't do it. YMMV

 

[daylatedollarshort]

We aim for at least a 0% real return, meaning our investments at least keep up with inflation, making our maximum safe withdrawal rate 100 / number of years of remaining expected retirement. For 30 years, our safe withdrawal is 3.33% (0 / 30 years). This methodology relies mainly on having fixed income investments that at least keep up with inflation. But it gives up the potential for big gains or losses in the stock market. In our case, we live on about half of what we could, with pensions and SS covering almost all our fixed and discretionary expenses, so we don't feel the need to take any risks with our life savings. We will more likely use our savings for random large expenses like helping our kids buy houses or LTC.

This investing style was easier to implement when interest rates were higher, and investors could buy 30 year TIPS returning 2 - 3% over inflation. It might be harder to do now if one was starting from scratch as interest rates, especially TIPS rates, are much lower.

Related link - Matching strategies from Bogleheads wiki - https://www.bogleheads.org/wiki/Matching_strategy

 

[Koolau]

We aim for at least a 0% real return, meaning our investments at least keep up with inflation, making our maximum safe withdrawal rate 100 / number of years of remaining expected retirement. For 30 years, our safe withdrawal is 3.33% (0 / 30 years). This methodology relies mainly on having fixed income investments that at least keep up with inflation. But it gives up the potential for big gains or losses in the stock market. In our case, we live on about half of what we could, with pensions and SS covering almost all our fixed and discretionary expenses, so we don't feel the need to take any risks with our life savings. We will more likely use our savings for random large expenses like helping our kids buy houses or LTC.

This investing style was easier to implement when interest rates were higher, and investors could buy 30 year TIPS returning 2 - 3% over inflation. It might be harder to do now if one was starting from scratch as interest rates, especially TIPS rates, are much lower.

Related link - Matching strategies from Bogleheads wiki - https://www.bogleheads.org/wiki/Matching_strategy

I looked into this approach and even read a book by Zvi Bodie. As I recall, (at the time of the original - not revised) book, Bodie recommended a very large commitment to TIPS. He showed how the inflation component covered the "unknown" of inflation while the investor could play around the margins with some more speculative stuff AND take a reasonable amount from principal and "regular" 3+% real interest on TIPS. This was almost 20 years ago so do NOT pin me down on the particulars. BUT, by the time I looked into it, the "real" interest was down a lot, so I tried more conventional approaches. Anytime you can make "decent" interest that way more than beats inflation, why wouldn't you? Why reach for the stars when you can live on Planet Earth quite nicely. BUT, of course, the easy days appear to be over - for a while. Just to keep up, we all need to at least walk a bit - maybe jog occasionally. Sad but true. YMMV

 

[RunningBum]

Wow, if I'd ever known there were 6 or 7 rules, I probably would never have retired.

Nobody said they were rules. You do what you want. I'll do what I want, like the part of those 7 things I said I do.

You may notice that I rarely answer Yes or No to the "Can I retire?" queries. I may ask some questions about things they may not have thought of. I can't speak for anyone else's level of risk or comfort, and I don't want to be responsible for something that doesn't work out. OK, I recently did recommend FIRE for someone, but they were so obviously set for life that it was a no-brainer.

 

[Koolau]

Nobody said they were rules. You do what you want. I'll do what I want, like the part of those 7 things I said I do.

You may notice that I rarely answer Yes or No to the "Can I retire?" queries. I may ask some questions about things they may not have thought of. I can't speak for anyone else's level of risk or comfort, and I don't want to be responsible for something that doesn't work out. OK, I recently did recommend FIRE for someone, but they were so obviously set for life that it was a no-brainer.

Sorry! I was just sort of yanking your FIRE chain. I'll not do it again. I value your feedback - agree or disagree. YMMV

 

[RunningBum]

Well, maybe that's just me being nit-picky again. I just don't like people telling me that what I prepare for in case something bad happens is actually something I believe will happen, or that I have rules that others must follow, so I get a little defensive. Peace.