Bill Bengen's 4% WR is not safe in a low yield world

[kgtest]

Dug up this nice little paper on low yield bonds are challenging Bill Bengen's 4% WR. Pfua and Fink have Ph. D and Blanchett is CFP.

http://www.retirementestateplan.com/wp-content/uploads/2015/07/the-four-percentage-rule-may-not-work.pdf

Actually stumbled on this from Morningstar Director of Finance Christine Benz's write-up on "What We Know for Sure About In-Retirement Withdrawal Rates"

She sums it up nicely "An open question, however, is whether the catastrophic market environment that led to the 4% guideline, while the worst in history, is the worst we'll see. Blanchett and co-researchers Michael Finke and Wade Pfau made waves a few years ago with their paper "The 4% Rule Is Not Safe in a Low-Yield World." In it, they argue that low bond yields, which typically portend meager returns from the asset class, increase the probability of failure for retirees employing the 4% guideline. Other retirement researchers aren't as pessimistic that the 4% guideline won't hold going forward. One key takeaway from the research from Blanchett et al., however, is that investors employing overly conservative portfolios (that is, holding 50% or more of their portfolios in bonds) ought to also be conservative when setting their withdrawal rates. "
What We Know for Sure About In-Retirement Withdrawal Rates

For all of us that are in the Investing For Dummies class with the bright yellow book...and correct me if I am wrong, and I am wrong often...but I believe this all pertains to that "sequence of return risk" folks in this forum talk about from time to time.

 

[gcgang]

So, this time it IS different?

If most simulations use 2.6% real return on bonds(as the article said), and 30 year Treasuries barely have a nominal yield of 2.6%, it makes sense you aren't going to get "average " returns, at least on your US bonds.

 

[mathjak107]

on the other hand according to kitces :

EXECUTIVE SUMMARY

As retirees and their planners adjust to the ‘new normal’ – a world of lower-than-average returns for the foreseeable future, many have questioned whether the historical safe withdrawal rate research is still valid. After all, if returns will be below average in the coming years, doesn’t that imply safe withdrawal rates must be below average as well? In point of fact, though, safe withdrawal rates do not depend on average returns in the first place; the worst safe withdrawal rates in history that we rely upon are actually associated with 15-year real returns of less than 1%/year from a balanced portfolio! Accordingly, given current bond yields, dividend yields, and inflation, if the current environment for today’s retirees will result in a “new record low” safe withdrawal rate, the S&P 500 would still have to be no higher in 2027 than it was in 2007 or even 2000! On the other hand, merely projecting equities to recover to new highs by the end of the decade or generating a mid-single-digits return would actually represent an upside surprise, allowing for higher retirement spending than 4.5% safe withdrawal rates!


https://www.kitces.com/blog/what-returns-are-safe-withdrawal-rates-really-based-upon/

 

[DrRoy]

I agree with the reasoning that 4% is not as safe going forward.

 

[audreyh1]

Note that the paper was from 2015. There was a lot of discussion here at the time, and several times since!

 

[Midpack]

Dug up this nice little paper on low yield bonds are challenging Bill Bengen's 4% WR. Pfua and Fink have Ph. D and Blanchett is CFP.

I agree with the reasoning that 4% is not as safe going forward.

That paper and others like it have been discussed here several times. So are you guys putting all your bond allocation dollars into SPIA's instead of bonds as Pfau recommends? Or something else?

I am sure Bengen and the Trinity study authors have regretted sharing their useful insights as many times as they've been twisted and misrepresented...

We also show that a 2.5% real withdrawal rate will result in an estimated 30 year failure rate of 10 percent. Few clients will be satisfied spending such a small amount in retirement. It is possible to boost optimal withdrawal rates by incorporating assets that provide a mortality credit and longevity protection. Pfau (2013), for example, estimates that combining stocks with single premium immediate annuities, rather than bonds, provides an opportunity for clients to jointly achieve goals related both to meeting desired lifestyle spending, and to preserving a larger reserve of financial assets.

 

[REWahoo]

Note that the paper was from 2015. There was a lot of discussion here at the time, and several times since!

+1

Do a search here on Wade Pfau and you'll turn up a number of threads on his scholarly articles [-]hawking life insurance and annuities[/-] on the subject.

http://www.early-retirement.org/for...e-and-annuity-selling-by-wade-pfau-77261.html
http://www.early-retirement.org/forums/f28/wade-pfau-looks-at-4-wr-finds-it-unsafe-61573.html
http://www.early-retirement.org/forums/f28/pfau-on-the-4-swr-question-yet-again-72745.html
http://www.early-retirement.org/for...uities-better-different-from-bonds-78299.html

 

[fritz]

That paper and others like it have been discussed here several times. So are you guys putting all your bond allocation dollars into SPIA's instead of bonds as Pfau recommends? Or something else?

I am sure Bengen and the Trinity study authors have regretted sharing their useful insights as many times as they've been twisted and misrepresented...

Good one

 

[Music Lover]

I agree with the reasoning that 4% is not as safe going forward.

I guess it depends on your age. 4% may not be safe long term if you're 45, but it probably is if you're 65 or 70...

 

[daylatedollarshort]

If you are planning a 30 year retirement and your investments keep up with inflation and nothing more, you could withdraw 100 / 30 year = 3.33%. Add in a bit of a real return and you could be at or close to 4% with a matching strategy and no stock market sequence of returns risk.

 

[W2R]

At some time in the past (back in the mid 90's?) all the internet wisdom I was reading said that 5% was perfectly safe in all cases, and probably 8% would be just fine. 4% was nuts and you were just throwing your money away and nobody sane would leave that much on the table.

Nothing is permanent or final. Nothing. So this is why it might be advisable when planning retirement to allow plenty of wiggle room, no matter what WR you decide to adopt.

I also prefer to have as many sources of income streams as possible, in case of market or bank failure, devaluation of the dollar, or SS cancellation, or whatever. We just have no way of knowing what will happen in the future. Look at Venezuela. That said, everything that has happened in my first 8 years of retirement has enhanced my net worth instead of lessening it as I had expected. Hopefully that will not reverse soon. It's similar to the situation of the working person, in that none of us really know what the future will bring.

 

[Midpack]

I guess it depends on your age. 4% may not be safe long term if you're 45, but it probably is if you're 65 or 70...

Not really - the 4% SWR calculation was based on 30 years among other well defined assumptions. It was never presented as a safe WR at any age and retirement duration.

 

[Music Lover]

Not really - the 4% SWR calculation was based on 30 years among other well defined assumptions. It was never presented as a safe WR at any age and retirement duration.

"At any age"? Really? What about at age 80? You can draw the 4% amount while getting a 0% return and still have enough money to last until you are 105. How many people live that long?

I suppose the people who are scared of running out of money can just keep working until they die on the job.

 

[Midpack]

I guess it depends on your age. 4% may not be safe long term if you're 45, but it probably is if you're 65 or 70..

Not really - the 4% SWR calculation was based on 30 years among other well defined assumptions. It was never presented as a safe WR at any age and retirement duration.

"At any age"? Really? What about at age 80? You can draw the 4% amount while getting a 0% return and still have enough money to last until you are 105. How many people live that long?

I suppose the people who are scared of running out of money can just keep working until they die on the job.

If you read the Trinity study or Bengen's work, they are based on several underlying assumptions, including a starting age of 65 and a 30 year retirement spending period as I noted in blue. The 4% SWR rules are based on an assumed 30 year longevity, no "it depends" involved. That's for the retiree to grapple with, and adjust for.

Your statement in red falls outside the assumptions of the 4% SWR studies as written, unless that 45 year old plans to die at age 75. This is a thread about Bengen's work...

 

[marko]

I wonder if there's a study on those who employed the 4% SWR left behind at their death as a percentage of what they started retirement with?

I'd settle for those who employed any consistent W/D percentage as a percent of what they started retirement with.

Example: X% of those who retired with a X% W/D rate left behind 125% of what they started retirement with.

 

[kgtest]

I wonder if there's a study on those who employed the 4% SWR left behind at their death as a percentage of what they started retirement with?

I'd settle for those who employed any consistent W/D percentage as a percent of what they started retirement with.

Example: X% of those who retired with a X% W/D rate left behind 125% of what they started retirement with.

I've read somewhere recently that the largest transfer of wealth in the US history is...or is about to occur. So perhaps those studies will come to fruition shortly. Of course assuming inflation, the next generation SHOULD have a similar result of largest transfer.

I think at the end of the day, folks need to understand with WR that:

1. We are not promised tomorrow, plan for 30 as a first step, not as the end-all
2. WR success rates will vary wildly based on many factors, so choose yours wisely.


I think the main reason I wanted to post this was to start a healthy debate that hopeuflly helps someone who might THINK 4% is a silver bullet, when underneath the surface lurks many impacting factors.

 

[marko]

I've read somewhere recently that the largest transfer of wealth in the US history is...or is about to occur.

I think the main reason I wanted to post this was to start a healthy debate that hopeuflly helps someone who might THINK 4% is a silver bullet, when underneath the surface lurks many impacting factors.

Right. But if we knew (for example) that 81% of those who started taking a 4% W/D at age 55 ended up with 200% of what they started retirement with (inflation adjusted), it might quell some of the hand wringing.

Conversely if we knew that 81% of those with a 4% W/D died with only 10% of their nest egg left, again it might pose a wake up call.

 

[mathjak107]

I wonder if there's a study on those who employed the 4% SWR left behind at their death as a percentage of what they started retirement with?

I'd settle for those who employed any consistent W/D percentage as a percent of what they started retirement with.

Example: X% of those who retired with a X% W/D rate left behind 125% of what they started retirement with.

90% of every rolling 30 year period since 1926 left you with more than you started with 30 years earlier . it left you with more than 2x what you started with 67% of the time and 1/2 the time tripled ----kitces

 

[marko]

90% of every rolling 30 year period since 1926 left you with more than you started with 30 years earlier . it left you with more than 2x what you started with 67% of the time ----kitces

Thanks! Something to ponder. Any mention of the W/D rate? Inflation adjusted?

 

[mathjak107]

4% inflation adjusted , 30 years .

 

[SecondCor521]

At some time in the past (back in the mid 90's?) all the internet wisdom I was reading said that 5% was perfectly safe in all cases, and probably 8% would be just fine. 4% was nuts and you were just throwing your money away and nobody sane would leave that much on the table.

I remember that time. I could retire in five years if the market just kept going up 20% per year.

Published opinions on things requiring some judgment call vary with the times. I've noticed that emergency funds are recommended to be 3 months of expenses when the economy is booming; when the economy is suffering then 9-12 months of expenses is the suggestion. Another thing that changes is the acceptable percentage (of what is never precisely specified) of company stock. In the go-go late 90's, up to 20% was fine; after the crash the recommendations shifted to 0-5%.

I also prefer to have as many sources of income streams as possible, in case of market or bank failure, devaluation of the dollar, or SS cancellation, or whatever. We just have no way of knowing what will happen in the future. Look at Venezuela. That said, everything that has happened in my first 8 years of retirement has enhanced my net worth instead of lessening it as I had expected. Hopefully that will not reverse soon. It's similar to the situation of the working person, in that none of us really know what the future will bring.

I am also surprised that things are going better for me than I thought they would since I retired (not as long ago as you, but still). But really, if we make our plans based on things being as bad as the worst of the past, then average results, which by definition are better (and often quite better), shouldn't surprise us when they occur.

For example, I made some very conservative assumptions:

I wouldn't get any income in retirement. Wrong.

I wouldn't get any inheritance. Wrong (sadly).

Historical average returns in the stock market. Wrong.

A stock I owned would go bankrupt. Wrong.

I wouldn't find any cheap yet enjoyable hobbies. Wrong.

Hardly anyone talks about the 1921 retiree, or the S&P returns in 2003 or 2013.

I'm glad I bullet-proofed my plans similarly to what most here do, but if things just bumble along average-like, I and we will have over-planned. Yes, there is always the potential of Venezuela or Japan or asteroids. But more often than not...not.

 

[mathjak107]

every worst case scenario failed not on 30 year average returns or inflation .

every worst case , 1907,1929,1937 ,1965,1966 failed in the first 15 years .

they ended up having to blow through to much money early on . by the time things turned around they had to little left to act on .

if you can maintain at least a 2% real return average the first 15 years of a 30 year retirement the math will stand for a 4% inflation adjusted draw .

just monitor things , if you are 5 or 6 years in and don't see a 2% real return average a red flag should go up to watch spending .

 

[marko]

4% inflation adjusted , 30 years .

Ok. Thanks! This is good to keep in mind.

 

[mathjak107]

you can see here why all the worst case's failed in the first 15 years . 30 year returnas are actually quite normal , but to little to late .

even the great bull market from 1987 to 2003 with 14% cagr average returns could not save the 1965/1966 group .

want to know what the actual results were over the worst 30 year periods ever ?

suppose you were so unlucky to retire in one of those worst time framess ,what would your 30 year results look like :

1907 stocks returned 7.77% -- bonds 4.250-- rebalanced portfolio 7.02- - inflation 1.64--

1929 stocks 8.19% - - bonds 1.74%-- rebalanced portfolio 6.28-- inflation 1.69--

1937 stocks 10.12 - - bonds 2.13 - rebalanced portfolio -- 7.24 inflation-- 2.82

1966 stocks 10.23 - -bonds 7.85 -- rebalanced portfolio 9.56- - inflation 5.38

for comparison the 140 year average's were:

stocks 8.39--bonds 2.85%--rebalanced portfolio 6.17% inflation 2.23%

so what made those time frames the worst ? what made them the worst is the fact in every single retirement time frame the outcome of that 30 year period was determined not by what happened over the 30 years but the entire outcome was decided in the first 15 years.

so lets look at the first 15 years in those time frames determined to be the worst we ever had.

1907--- stocks minus 1.47%---- bonds minus .39%-- rebalanced minus .70% ---inflation 1.64%

1929---stocks 1.07%---bonds 1.79%---rebalanced 2.29%--inflation 1.69%

1937---stocks -- 3.45%---bonds minus 3.07%-- rebalanced 1.23%--inflation 2.82%

1966-stocks minus .13%--bonds 1.08%--rebalanced .64%-- inflation 5.38%

 

[audreyh1]

you can see here why all the worst case's failed in the first 15 years . 30 year returnas are actually quite normal , but to little to late .

even the great bull market from 1987 to 2003 with 14% cagr average returns could not save the 1965/1966 group .

want to know what the actual results were over the worst 30 year periods ever ?

suppose you were so unlucky to retire in one of those worst time framess ,what would your 30 year results look like :

1907 stocks returned 7.77% -- bonds 4.250-- rebalanced portfolio 7.02- - inflation 1.64--

1929 stocks 8.19% - - bonds 1.74%-- rebalanced portfolio 6.28-- inflation 1.69--

1937 stocks 10.12 - - bonds 2.13 - rebalanced portfolio -- 7.24 inflation-- 2.82

1966 stocks 10.23 - -bonds 7.85 -- rebalanced portfolio 9.56- - inflation 5.38

for comparison the 140 year average's were:

stocks 8.39--bonds 2.85%--rebalanced portfolio 6.17% inflation 2.23%

so what made those time frames the worst ? what made them the worst is the fact in every single retirement time frame the outcome of that 30 year period was determined not by what happened over the 30 years but the entire outcome was decided in the first 15 years.

so lets look at the first 15 years in those time frames determined to be the worst we ever had.

1907--- stocks minus 1.47%---- bonds minus .39%-- rebalanced minus .70% ---inflation 1.64%

1929---stocks 1.07%---bonds 1.79%---rebalanced 2.29%--inflation 1.69%

1937---stocks -- 3.45%---bonds minus 3.07%-- rebalanced 1.23%--inflation 2.82%

1966-stocks minus .13%--bonds 1.08%--rebalanced .64%-- inflation 5.38%

I'm wondering about this failed in the first 15 years statistic. What is the definition of failure? Because in FIRECALC for 4% from a 50/50 portfolio starting in 1966, the portfolio did not run out of money until around 1989 which was after 24 years.

Maybe the definition for failure was a different one - withdrawal exceeding some high percent of current portfolio?

Or are you running some Montecarlo simulations?