My doomsday scenario

[Mark24609]

Does anyone ever worry about their portfolio?

Let’s say an investor with a $3,000,000 portfolio has 40% in stocks, which is the recommended allocation from many financial advisors for retirement. I often hear take the number 100 subtract your age and that is the allocation you should have for stocks. Age 60 means 100 - 60 = 40%. You decide to retire at age 60. It is the day before you retire. You have your retirement party and everyone says their goodbyes. You have no pension. You wake up the next day after some world event transpired followed by terrible earnings reports from your favorite companies. The market tanks 10%. The spiral downward continues dropping a total of 45% in two years, and then it takes four years for recovery.

40% means you have 1,200,000 invested in the stock market. After the drop, that leaves you with $720,000 still invested in the stock market and a loss of $480,000 in your portfolio. Because inflation has also picked up your bond portfolio drops 5% in the same time period. That’s an additional $90,000 ($1,800,000 * .05) drop. You have now lost $570,000. That once magnificent $3,000,000 portfolio just left you with $2,430,000 but wait, you still have to live. We have to subtract $94,000 (my estimated annual living expenses) for the two years of drop and the four years of recovery, a total of 6 years (we won’t take any inflation adjustment) that’s an additional $564,000 we have to subtract in a bear market. We became eligible for Social Security at age 66, one year before the recovery so we add 50,000 back’ (amount my wife and I should receive) Now we have $1,916,000. During the course of six years, more than a third of your portfolio vanished.

That means to make back your $1,084,000, your portfolio has to increase more than 33%. Of course, you may have had a heart attack before all this is finished in which case you no longer have to worry.

 

[samclem]

Things to consider:
1) At least some of your stocks will continue to pay dividends. Those can help meet your current spending requirement and reduce the need to sell shares while they are down.

2) Likewise, I assume your bonds will also be paying interest, which will help cover your living expenses and reduce the need to sell during the dip.

3) You've hit on one attraction of using a withdrawal procedure based on "X% of year end assets" rather than "X% of starting portfolio adjusted for inflation." Yes, it requires that you have flexibility in the amount you need to spend every year, but it also helps to reduce spending when the portfolio takes a hit. This helps reduce recovery time and, significantly, assures you can never entirely run out of money (though you can certainly lose spending power over time if our real return doesn't match the amount withdrawn). Plus, in reality, aren't most people going to adjust their spending if they see their portfolio heading toward the dirt? I try to imagine I am riding one of those FIRECalc plot lines that is going down, down over many years, but I don't have the comfort of seeing how the story ends, how the line eventually recovers. I know for sure we would tighten our belt. Well, if that's what we'll do in practice, it makes sense to me to just plan for that. Similarly, if a line is headed up toward the stars, we'd want to spend it (and maybe tuck some away for future tough times, as Audrey has mentioned).

 

[JoeWras]

Sequence of returns risk. Your scenario is exactly this.

 

[dayzero]

Congratulations, you have discovered sequence of returns risk. I suggest setting aside a day and reading everything in this blog series:


https://earlyretirementnow.com/2016/12/07/the-ultimate-guide-to-safe-withdrawal-rates-part-1-intro/

 

[W2R]

Does anyone ever worry about their portfolio?

Let’s say an investor with a $3,000,000 portfolio has 40% in stocks, which is the recommended allocation from many financial advisors for retirement. I often hear take the number 100 subtract your age and that is the allocation you should have for stocks. Age 60 means 100 - 60 = 40%. You decide to retire at age 60. It is the day before you retire. You have your retirement party and everyone says their goodbyes. You have no pension. You wake up the next day after some world event transpired followed by terrible earnings reports from your favorite companies. The market tanks 10%. The spiral downward continues dropping a total of 45% in two years, and then it takes four years for recovery.

40% means you have 1,200,000 invested in the stock market. After the drop, that leaves you with $720,000 still invested in the stock market and a loss of $480,000 in your portfolio. Because inflation has also picked up your bond portfolio drops 5% in the same time period. That’s an additional $90,000 ($1,800,000 * .05) drop. You have now lost $570,000. That once magnificent $3,000,000 portfolio just left you with $2,430,000 but wait, you still have to live. We have to subtract $94,000 (my estimated annual living expenses) for the two years of drop and the four years of recovery, a total of 6 years (we won’t take any inflation adjustment) that’s an additional $564,000 we have to subtract in a bear market. We became eligible for Social Security at age 66, one year before the recovery so we add 50,000 back’ (amount my wife and I should receive) Now we have $1,916,000. During the course of six years, more than a third of your portfolio vanished.

That means to make back your $1,084,000, your portfolio has to increase more than 33%. Of course, you may have had a heart attack before all this is finished in which case you no longer have to worry.

It's good to think about these things in advance! I sure did when I retired at age 61, in 2009, with only a 3 figure mini-pension and my investment portfolio to depend on.

That said, in June I will turn 70 and will start getting my full, age 70 SS for the first time. It sure makes a difference because at last, I won't be depending on my portfolio for most of my spending money. Also although I would love to live for another 30 years, at my age I suppose it is unlikely. So, more money, less time to cover, everything seems to be OK. That said, this cartoon is relevant:

 

[RunningBum]

In a really bad starting scenario like this, I'd be happy just to survive it. I don't need to "make back" the $1M+ I"m down from my starting $3M. It would be nice, of course, and it's also quite possible, but not a requirement. I would definitely be looking to cut back on my spending, or considering rejoining the workforce if I thought that the $1.9M wouldn't last for the remainder of my life.

 

[haha]

Does anyone ever worry about their portfolio?

If we don't, am not sure why there are so many posts on this board, which after all is not exactly thrilling other than as an attempt to calm anxious thoughts.

I would be amazed if we didn't see much lower levels within the next couple years, but the levitation game has so far worked, so I am no guru.

Ha

 

[joeea]

Does anyone ever worry about their portfolio?

Not much. I never worry about doomsday.

That means to make back your $1,084,000, your portfolio has to increase more than 33%.

If your retirement depends on having $3M, and depends on not losing any, then you should be worried. And maybe your plan B should be to unretire quickly. Or if those thoughts keep you up at night, then you should plan not to retire at all.

On the other hand, if your retirement expenses are low enough to be in line with your asset allocation, then you might not be worried at all.

 

[MoneyIsMyHobby]

Here's my thinking.

I think my house will likely be paid off, or close to it, when I retire. I recently discovered the amazing world of HELOCs. I found a bank willing to do a HELOC for 10 years (with a 10 year amort. payback at the end with a fixed interest rate) with no loan origination fees or fees of any sort.

My plan would be to (a) reduce my cost of living below the $94k you suggest for those two years... and (b) use my HELOC, dividends, and interest to live... and (c) not sell any stock or bonds at all until the market recovers, then repay my HELOC.

One of my favorite things about having a HELOC is having emergency funds at a reasonable interest rate (even if the emergency is a real estate investment opportunity) without having to sell other investments at an inopportune time.

On joeea's point of view about unretiring... that would also be an option to supplement what I proposed. Just something with group health insurance would be a big deal. The idea of having to go back to work for a couple years in the middle of retirement isn't the worst thing in the world. Although the labor market is likely to be weak in this doomsday scenario you described.

MIMH

 

[97guns]

There’s nothing more important in retirement than protecting your retirement, gains on capital should be the least of concerns, preserving the capital is the utmost importance. I’m a coward and I’d probably be 10% or less in stock or zero like I’ve been since retirement.

 

[HI Bill]

Sequence of return risk is why many here keep several to 5 years of expenses out of the markets...that way, you can blithely ignore downturns and maintain your standard of living. The cost is, of course, the effects of inflation and low/no returns on your cash/CD investments.

 

[joeea]

We have to subtract $94,000 (my estimated annual living expenses) for the two years of drop and the four years of recovery, a total of 6 years (we won’t take any inflation adjustment) that’s an additional $564,000 we have to subtract in a bear market.

Seems like the $94k/year is to be spent without regard to the bull/bear market, right?

I don't see why that affects your doomsday scenario.

 

[MoneyIsMyHobby]

Sequence of return risk is why many here keep several to 5 years of expenses out of the markets...that way, you can blithely ignore downturns and maintain your standard of living. The cost is, of course, the effects of inflation and low/no returns on your cash/CD investments.

That is a great idea, but I'm not sure why not a HELOC instead (assuming plenty of home equity) to avoid that downside you mentioned...

 

[COcheesehead]

Like others have said, sequence of returns risk. With us being about 2 years out from FIRE day, I thought about this a lot. Here's what I've been doing. I buy a muni bond about every month or two $5000 to $10,000 worth starting in my Fire year of 2021. I plan to ladder them out to about 6 years, buying shorter durations now, longer as rates go up. So starting the month after I retire I will have a tax free payment of a maturing bond of about $5000 - $10,000 a month for at least the first 6 years after I retire. I can use the money, reinvest it, ladder it out again. It will be tax free too, so I can start my IRA rollovers up to whatever tax level I prefer, probably 12%. Six years of income gives us the peace mind to let equites ride or not touch money we have in bond funds that would kick off cap gains if sold.

 

[jjflyman]

If it were me:
If I have 3M+ portfolio, I would be mostly in laddered CD's, T-Bills and conservative mutual funds.
I see no reason to risk your nest-egg. The old saying goes something like "When you've won the game, stop playing".
You've won, stop risking it, I don't care what the "experts" say

 

[MoneyIsMyHobby]

If it were me:
If I have 3M+ portfolio, I would be mostly in laddered CD's, T-Bills and conservative mutual funds.
I see no reason to risk your nest-egg. The old saying goes something like "When you've won the game, stop playing".
You've won, stop risking it, I don't care what the "experts" say

This approach seems crazy to me, and my approach I expect seems crazy to you. If you work with an FA the first thing they want to know (after your goals) is your risk tolerance level. We're all different when it comes to this, and that's OK because there are soooo many different ways to make up a retirement portfolio there is one for everybody - regardless of their risk tolerance.

I don't think you'll ever find me buying an annuity or putting most of my cash into laddered CD's or T-Bills. I'd rather risk having to go back to work than accept that level of return. I'm too ambitious for that approach.

Mark is just going to have to figure out where on the spectrum he falls, and there are a bunch of ideas here (and many more not here) to fit his profile. Mark, care to share your thoughts?

MIMH

 

[COcheesehead]

This approach seems crazy to me, and my approach I expect seems crazy to you. If you work with an FA the first thing they want to know (after your goals) is your risk tolerance level. We're all different when it comes to this, and that's OK because there are soooo many different ways to make up a retirement portfolio there is one for everybody - regardless of their risk tolerance.

I don't think you'll ever find me buying an annuity or putting most of my cash into laddered CD's or T-Bills. I'd rather risk having to go back to work than accept that level of return. I'm too ambitious for that approach.

Mark is just going to have to figure out where on the spectrum he falls, and there are a bunch of ideas here (and many more not here) to fit his profile. Mark, care to share your thoughts?

MIMH

Your risk tolerance is determined not in a bull market like we've had for the last 10 years, but when you get punched in the face like 2008, 2000, 1991, 1987.... Like the old saying there are no atheists in a fox hole, there are a lot of "high risk" tolerant folks in a bull market.

 

[MoneyIsMyHobby]

Your risk tolerance is determined not in a bull market like we've had for the last 10 years, but when you get punched in the face like 2008, 2000, 1991, 1987.... Like the old saying there are no atheists in a fox hole, there are a lot of "high risk" tolerant folks in a bull market.

I see your point... that said, as long as you have a plan for the bear and the discipline to stick with it.... I didn't sell a dime when the market crashed in 2008 (I am too young for the previous bears). I didn't buy much either, because I didn't have any extra cash. My parents bought the whole way down, and have the gains to show for it.

For an extra data point, I bought nearly $50k the day before the drop started in 2008... that is still a lot of money to me, but at that time it was a whole lot (probably 1/2 my net worth). I learned a valuable lesson about dollar-cost-averaging...

MIMH

 

[marko]

Does anyone ever worry about their portfolio?

Let’s say an investor with a $3,000,000 portfolio has 40% in stocks, which is the recommended allocation from many financial advisors for retirement. I often hear take the number 100 subtract your age and that is the allocation you should have for stocks. Age 60 means 100 - 60 = 40%.

I'm not sure 40% is the latest conventional wisdom. People are living longer and inflation is always a risk. I'd ask around and research a bit more if I were you before committing to a particular AA.

I've heard 60% equities for 70 year olds; I'm 66 and still at 60/40, but my risk tolerance is relatively high.

In the end, if losing $1M in a downdraft (like I did in 2008) is going have you standing on a window ledge, do what's best for you.

 

[ncbill]

Rising equity glide path approach, starting at a lower stock allocation, e.g. 20% instead of 30%.

 

[athena53]

If your retirement depends on having $3M, and depends on not losing any, then you should be worried. And maybe your plan B should be to unretire quickly. Or if those thoughts keep you up at night, then you should plan not to retire at all.

On the other hand, if your retirement expenses are low enough to be in line with your asset allocation, then you might not be worried at all.

I agree. I'm pretty aggressively invested (65 years old, 70% equities) and it doesn't bother me. If Doomsday hits I can cut back on charity, travel and funding my grandkids' 529s as well as filing for SS before age 70. I won't like it but I'll still be able to meet essential expenses as I wait for the market to recover. I think the people who run into trouble are the ones aggressively invested who need every dime of that 3 or 4% of assets to pay for basic needs.

 

[marko]

Things to consider:
1) At least some of your stocks will continue to pay dividends. Those can help meet your current spending requirement and reduce the need to sell shares while they are down.

2) Likewise, I assume your bonds will also be paying interest, which will help cover your living expenses and reduce the need to sell during the dip.

3) You've hit on one attraction of using a withdrawal procedure based on "X% of year end assets" rather than "X% of starting portfolio adjusted for inflation." Yes, it requires that you have flexibility in the amount you need to spend every year, but it also helps to reduce spending when the portfolio takes a hit. This helps reduce recovery time and, significantly, assures you can never entirely run out of money (though you can certainly lose spending power over time if our real return doesn't match the amount withdrawn). Plus, in reality, aren't most people going to adjust their spending if they see their portfolio heading toward the dirt? I try to imagine I am riding one of those FIRECalc plot lines that is going down, down over many years, but I don't have the comfort of seeing how the story ends, how the line eventually recovers. I know for sure we would tighten our belt. Well, if that's what we'll do in practice, it makes sense to me to just plan for that. Similarly, if a line is headed up toward the stars, we'd want to spend it (and maybe tuck some away for future tough times, as Audrey has mentioned).

+1 on dividends and interest. In our particular case, we pretty much live off them just fine. Even in 2008-09 our dividends didn't drop enough to change our lifestyle.

Re: #3, there's another thread running now that claims that short-term belt tightening doesn't help all that much in the long run. Probably still a good idea though in hard times.

As others have said/implied, it depends upon how much cushion you have. If having $3M is critical to your RE, you could be at risk. If you can live nicely on $2M and the other $1M is gravy, you should be ok.

 

[24601NoMore]

Does anyone ever worry about their portfolio?

Let’s say an investor with a $3,000,000 portfolio has 40% in stocks, which is the recommended allocation from many financial advisors for retirement. I often hear take the number 100 subtract your age and that is the allocation you should have for stocks. Age 60 means 100 - 60 = 40%. You decide to retire at age 60. It is the day before you retire. You have your retirement party and everyone says their goodbyes. You have no pension. You wake up the next day after some world event transpired followed by terrible earnings reports from your favorite companies. The market tanks 10%. The spiral downward continues dropping a total of 45% in two years, and then it takes four years for recovery.

40% means you have 1,200,000 invested in the stock market. After the drop, that leaves you with $720,000 still invested in the stock market and a loss of $480,000 in your portfolio. Because inflation has also picked up your bond portfolio drops 5% in the same time period. That’s an additional $90,000 ($1,800,000 * .05) drop. You have now lost $570,000. That once magnificent $3,000,000 portfolio just left you with $2,430,000 but wait, you still have to live. We have to subtract $94,000 (my estimated annual living expenses) for the two years of drop and the four years of recovery, a total of 6 years (we won’t take any inflation adjustment) that’s an additional $564,000 we have to subtract in a bear market. We became eligible for Social Security at age 66, one year before the recovery so we add 50,000 back’ (amount my wife and I should receive) Now we have $1,916,000. During the course of six years, more than a third of your portfolio vanished.

That means to make back your $1,084,000, your portfolio has to increase more than 33%. Of course, you may have had a heart attack before all this is finished in which case you no longer have to worry.

Ditto this. I'm ~100 days from ER (54 1/2) and worry about sequence of returns risk a LOT. For that reason and that reason alone, I'm downshifting my equity allocation and increasing cash. Unfortunately, I didn't do as much of this as I planned for tax and other reasons and now have a 'bunny market' that is making re-allocation much more difficult.

3-year brokered CDs are pushing 3%, and the interest from our cash allocation + dividend paying stocks is pretty much all we need to pay (most of) the bills. Plus, DW is ~5 years from SS which will also help with cashflow. I'd love to make a ton more $$ on the upside so that I can travel a lot, buy whatever toys I'd like, etc, but 100 days from RE I'm all about protecting the downside and what we've already accumulated.

I realize cash won't make us rich, but am 50+% cash on our overall PF. (That'll pretty much get you laughed off the board on Bogleheads, but is what makes me comfortable). Most of that is in CDs. Some in MM. Either way, we can survive a pretty long bear without selling a single dollar in our investment portfolio. Still keeping $1M+ "invested" but at over 50% cash I feel a whole lot better about what might come.

All that said, I still get stressed about the "total number" on the spreadsheet. It's comforting to see a relatively safe # before ER. If that # were to drop precipitously right before ER, that'd suck and stress me out to the max..but at least we have our cash kitty to fall back on - and we're already covering the majority of our expenses through dividend paying stocks and interest from brokered CDs.

As others have said, it all comes down to your comfort with risk. Bernstein said it best - "if you've won the game, quit playing". My problem is I love investing - the science of it, the research, the return, etc. But I do also think the glory days of the market are behind us for at least the next decade - and that's not good with going into ER this year. How there are people here 60, 70, 80, 90 or even 100% stock is beyond me. Maybe they have not 'won the game' yet but memories of 2008 are still very fresh and a 50% drop in my PF would potentially kill me - so, I prefer to limit the upside and protect the downside. Tortoise and Hare. The Tortoise wins every time.

 

[NW-Bound]

Let’s say an investor with a $3,000,000 portfolio has 40% in stocks... The market tanks 10%. The spiral downward continues dropping a total of 45% in two years...

... Now we have $1,916,000. During the course of six years, more than a third of your portfolio vanished...

So, you enjoy 6 years of retirement, and at the end of that period you still have 2/3 of your stash. Is that a reason to complain?

In the past, a portfolio of 40% stock/60% bond has lost 36% of its value in a mere 4 years, with no withdrawal.

The above is the worst case in history. There are several others where the same portfolio lost 25% within 6 years, also with zero withdrawal.

 

[Huston55]

Define “Doomsday”

If “doomsday” means a ‘Black Swan’ event, then I’m not sure there really is an adequate plan.

But, if “doomsday” means ‘Historically Severe Bear Market’, then there are several things that can be done; which, BTW, are discussed here all the time (including immediately above).

1. Have a “Plan B” and a “Plan C” (both would likely include cutting expenses.)
2. Have 5+/- years of guaranteed investments set aside (usually cash-ish vehicles)
3. Consider using an “annuity hurdle” concept as part of your “Plan C”
4. If you’re super-anxious about your current situation, then you might want to reevaluate your risk tolerance & AA. As part of that evaluation, you may want to move to/toward a safer “floor & upside” style portfolio. (A good source of info on this is Dirk Cotton’s blog The Retirement Café )