Variance of returns

[Leonidas]

Can you point me to where you see that I need to stay in DROP for 5 years so i can participate after retirement? As far as I know, I dont have to be in DROP while still working to be in it after I stop working. If youre correct, this changes everything.

This is what I get for trying to skim a pension plan. I was wrong, there were two paragraphs in a row that talked about your options when you leave active service. The first para said you could receive your pension or defer into DROP, and the second said you could leave your accumulated pension contributions with the plan if you didn't have enough time to retire, but you had to take a distribution if you had less than 5 years of pension service. Sorry, my bad.

Some DROP plans have time limits, but yours does not.

Your plan is different in that you all are allowed to defer pension payments into DROP after you leave active duty. Ours is limited to active duty, although we have the option of leaving the accumulated amount there and earning the same rate as everyone else.

That part of your plan is what throws me for a loop. To me, the real cool part of the DROP was I was still getting my full pay while I was also getting pension payments into the DROP. It was like getting a big pay raise, and I was also able to take advantage of a limited availability option that allowed me to stop working while I "burned" all of my accumulated leave banks. It worked out to over 2 1/2 years of retirement at nearly full pay and continued DROP accumulation.

Doing it that way I went from paycheck to pension check and had already accumulated a large chunk of money in my DROP account. I left at 45, so I can't touch the money until 59 1/2, but I had already worked that out in my plan.

So, you're going to defer your pension for 10 years?

Getting promoted would be an absolute last resort. I would rather make due with a little less money in retirement than spend my last few years working evenings with bad days off.

Yeah, it's not easy for most. A good friend who used to work for me is one of those 40-something Sergeants. He went from a nice day-shift job at a federal drug task force to running an evening shift tactical unit in patrol. His troops are all in their 20's and very, very energetic. As he puts it, "Jumping out of the van and chasing 19-year-old crack dealers was easy when I was 25, but at 47 it starts to wear on you."

The way he looks at it is the same attitude I had (I infected him with it before I left): I can do anything for a couple of years if it results in a nice payoff in my pension. I got promoted to Lt. two years before I retired (day shift Narco to night shift Vice), and spent the last year as an acting Capt. Back then acting pay went on your retirement, and every day they were giving me Captain's pay I showed up with bells on. Including a week I had the flu. The only way I made it that week was by figuring out that every day there was X dollars a month on the pension. My Asst Chief was in retirement mode and I volunteered to go to every community meeting, press conference, townhall meeting or whatever there was that she didn't want to do that allowed me to put in an overtime request form (OT for supervisors was at straight pay, but it was also calculated for pension purposes). When the acting Capt gig was up I went back on night shift with Mondays and Tuesdays off so I could leave with shift and weekend differential pays calculated into my pension.

It sucked, but I figured that no pain = no gain.

Where do you...or did you, work?

I'll send you a PM on that.

 

[jIMOh]

Did you make a mistake? Yes and no.

If all 3 scenarios have the same total return and there are no withdrawals, the final balances will be the same no matter what order the returns come in.

The reason "A" and "B" have the same final result is because the returns are the same just in different order. When you account for very sizeable monthly withdrawals, it makes a huge difference in the final balance.

The reason that "C" has a different final balance is because the year 2008 returns arent for a full year. They end on 6/13/08. If they were for the full year, it wouldnt be a total return of 8.2%. So thats throwing your "C" numbers off a bit.

If you play around with the XIRR function on excel, you'll see that when making withdrawals the number change dramatically.

You sure on that math? Or did you communicate correct based on OP?

The order returns do come in matters.

If I gain 50% then lose 33%, that is different than losing 33% then gaining 50%.

 

[jIMOh]

My thoughts- what do you want from the 401k? I read a 10 year income stream? That definitely suggests diversificiation. The general risks are early down years. The way to hedge that risk is a high amount of cash when you start withdrawing.

Consider this plan:

50% cash (represents 5 years income), 25% bond and 25% equity. If you could expand the 50% cash to be 9 years worth of income, this might work even better.

Year 1- if portfolio return was positive, spend 1 years cash and put .5 years cash into stocks and .5 years into bonds.

You now have 3 years cash and an increased stock and bond position (relative to year 1).

Year 2- spend another years cash. If portfolio went up, put .5 years cash into stocks and another .5 years cash into bonds.

You now have 1 years cash on hand, and a higher stock/bond allocation than before.

The hope would be the appreciation of year 1 and year 2 would not be erased at year 3. You would need to run some numbers to suggest what level of interest and dividends the portfolio returns to you for year 3-4-5-6 to see when you start selling shares.

The longer you can go without selling some shares the more likely this plan works. This is a part of my plan, but I plan on having around 9-11 years cash and then spending 1/ investing 1 for around 4-5 years (until I am left with 3 years cash on hand).

 

[utrecht]

$10000 x 150% = $15000
$15000 x -33% = $10050


$10000 x -33% = $6700
$6700 x 150% = $10050

 

[utrecht]

My thoughts- what do you want from the 401k? I read a 10 year income stream? That definitely suggests diversificiation. The general risks are early down years. The way to hedge that risk is a high amount of cash when you start withdrawing.

Consider this plan:

50% cash (represents 5 years income), 25% bond and 25% equity. If you could expand the 50% cash to be 9 years worth of income, this might work even better.

Year 1- if portfolio return was positive, spend 1 years cash and put .5 years cash into stocks and .5 years into bonds.

You now have 3 years cash and an increased stock and bond position (relative to year 1).

Year 2- spend another years cash. If portfolio went up, put .5 years cash into stocks and another .5 years cash into bonds.

You now have 1 years cash on hand, and a higher stock/bond allocation than before.

The hope would be the appreciation of year 1 and year 2 would not be erased at year 3. You would need to run some numbers to suggest what level of interest and dividends the portfolio returns to you for year 3-4-5-6 to see when you start selling shares.

The longer you can go without selling some shares the more likely this plan works. This is a part of my plan, but I plan on having around 9-11 years cash and then spending 1/ investing 1 for around 4-5 years (until I am left with 3 years cash on hand).

I'll run some numbers but I cant see how its possible that this would work. It will definately smooth my returns very much, but I need an overall 7% return for 10 years. I cant imagine that 50% cash / 25% bond / 25% equity will do that.

 

[Midpack]

Wait until you project out the variance for 30, 40 or more years. As mentioned above, you need to enter your numbers in FireCalc http://http://fireseeker.com/ to start to get your head around the uncertainty we all face. Below is the most basic chart for $1,000,000 with 4% withdrawal for 30 years - "successful" 94.4% all the time (101 or 107 times). So 5.6% would run out of money, but only if they did absolutely nothing to adjust over that 30 years. Unlikely. And then of course if you live more than 30 years...

 

[jIMOh]

I'll run some numbers but I cant see how its possible that this would work. It will definately smooth my returns very much, but I need an overall 7% return for 10 years. I cant imagine that 50% cash / 25% bond / 25% equity will do that.

This is a spin on the buckets portfolio. The issue in this case is the high withdraw rate- meaning the equity/bond mix needs to generate a higher return to make this work than otherwise.

Here are my numbers for ME. Need 40k cash. Assuming a $1 M portolio/ 4% withdraw rate.

9 years expenses is 360k
remaining balance is 640k

40k/640k=6.25% withdraw rate

year 1- spend 40k cash
if portfolio goes up, allocate 40k more to portfolio 680k in porfolio (40/680=5.9% withdraw rate). have 7 years cash left.
if portfolio goes down, keep 40k in cash. Have 8 years cash left.

year 2
if portfolio goes up, allocate 40k more to portfolio 720k in porfolio (40/720=5.6% withdraw rate) have 5 years cash left.
if portfolio goes down, keep 40k in cash. Have 7 years cash left.

year 3
if portfolio goes up, allocate 40k more to portfolio 720k in porfolio (40/760=5.3% withdraw rate) have 3 years cash left.
if portfolio goes down, keep 40k in cash. Have 6 years cash left.

years 4-infinite
if porfolio went up in first 3 years, I have 3 years cash and the portfolio needs to generate a 5.3% return to replenish the cash. Only withdraw in up years, have a 3 year cushion. This is worst case for porfolio moving up, as I did not factor in portfolio increases into withdraw calculations.

If portfolio went down, I just keep the cash for spending while the rest of portfolio recovers over next 3 years. The probability of a portfolio being negative after 6 years (without any withdraws) is quite low, assuming a moderate asset allocation for the bucket which includes stocks, bonds, REITs and commodities.

In the case of the OP, the biggest issue is the short period of the 401k withdraws (10 years). I agree the short period makes this tougher.

If OP had 40k income need, and had only 400k to make it happen, then I would look to do something similar, using a smaller initial cash position.

7 years expenses in cash (280k) and remainder invested (120k)
the 120k would need a huge return (33%) to fund income need.

5 years expenses in cash (200k) and remainder invested (200k) would need a 20% return.

3 years expenses in cash (120k) and remainder invested (280k) would need a 14% return.

If you compare the 2 examples it comes down to SWR in both cases- the 40k is a 4% SWR in my case where in second case it is a 10% SWR.

I am aware of one mutual fund with higher than a 10% yield, so more than likely advice to OP is to get the needed return of the 401k to 7-8% range, where more options will be available.