How hard is it to RE at the market top (2014)?

[daylatedollarshort]

Your RIP results are much better than mine!

I should add I put in a set amount for retirement income, which gets adjusted for inflation, and do not use the Fidelity default health expense calculations, which seem unrealistically high compared to the Consumer Expenditure Survey of what most retirees spend now. We'd move out of the country before we'd pay as much for future U.S. health care as they had in their default mode.

 

[NW-Bound]

I had been investing for cap gain until recently when I tried to get more value stocks, which often are dividend paying stocks. But with the dividend yield so low now (the S&P 500 yield of 1.85% is below inflation), how does one live off the stock dividend and not counting on cap gain?

So, this begs the next question: What is the historical S&P yield? It has never been that great, and mostly trails the inflation rate. For example, the following chart shows that during the era of 14% inflation of the early 1980s, the stock yield was merely 6%.

It is known that value stocks do better than the broad market in the long run even when measured in total return, and the former's return in the form of dividend is higher, so perhaps that is good for income investing. I checked but they currently yield about 2.5%, higher than the S&P but not something to be excited about without cap gain when inflation is already 2.1%.

 

[photoguy]

I'm back, so let me explain it this way.

First, I think it is easier to discuss if we use a 100% historically safe WR, which based on defaults is a 3.59% WR.

The reason that "you don't need to re-adjust after a market drop", is because that value was historically safe in every single cycle. Every one. So no, you "you don't need to re-adjust after a market drop", because that market drop is just one of the squiggly lines on the output chart that dips and rises and passes with a 100% historically safe WR - without re-adjustment.

To be clearer, I should have said re-assess your failure risk (because it's going to go up) and then *possibly* adjust your withdrawal strategy (if the additional risk is more than you can bear). And by re-assess I don't mean run Firecalc and use the number that comes out blindly.

A lot of people focus on a 100% historical success rate in firecalc which is around 3.5% (however other studies have yielded much lower rates). If you truly believe the future will not be worse than the past, then I agree you do not need to take any action.

However, the way I think about it is there is about 100 years of return data, and as an early/new retiree I need my portfolio to last an additional 50 years. So at the end of the 150 years, what is the chance that the worst sequence of returns occurs during my watch? I don't think this is negligible.

Now, maybe you are talking about taking a 4% WR with 95% success, and trying to identify when you are on one of the 5% failure paths, and then readjusting? OK, I don't think FIRECalc gives the fine granularity to look at this, other than trying to use the single year spreadsheet output (but that is only valid for 30 year cycles, IIRC), look at where the problems occur, and see if you can formulate a spending adjustment that will recover. I can tell you from previous studies that 1966 is one of the failure start years.

And I think you will find it takes some serious cuts for some serious time to recover - it isn't simply a matter of hamburger versus steak once a week, or dropping cable. From my earlier post:

You can try slicing that different ways, it would be interesting to see other cuts/times that would get back to 100%, so please report back if you run some.

Serious cuts is still preferable to running out. Another alternative action may be to let the w.r. go to zero by returning to work.

In terms of other ways of adjusting withdrawals to increase success rates -- theres a lot of work on variable withdrawal rates. But I haven't looked too much into these because my personal strategy is to use a very low withdrawal rate so that I only have to adjust in the worst circumstances.

I also suspect you'd have a tough time identifying the failures other than in the rear-view mirror. A scary market drop followed by a decent recovery and moderate inflation might be a success path, while a more modest drop followed by years of inflation might be a killer.

I don't think you need to identify the failure before taking action. You could start adjusting withdrawals every year based on returns (obviously this doesn't fit into the firecalc framework). A simple method might be take 4% of current portfolio value (not starting value adjusted for inflation).

 

[NW-Bound]

...
In terms of other ways of adjusting withdrawals to increase success rates -- theres a lot of work on variable withdrawal rates. But I haven't looked too much into these because my personal strategy is to use a very low withdrawal rate so that I only have to adjust in the worst circumstances...

I think we can all agree that if one is unfortunate to live through a bad period similar to some in the past, a sustained WR reduction would be needed to survive until the investment returns pick up again. A reduction of 1 or 2% WR over a couple of years will not make a dent if a bad market crash takes away 30-40% of your portfolio. You may need to scrimp for 5-10 years.

Then, how about looking at the other side of the coin? As we do not know if we are headed into a bad period, why worry about it in advance? What's wrong with spending 4% instead of 2% or 3% if the market is going gung-ho now? An extra 1% now won't make that much difference anyway. Let's enjoy life until we see that the market stalls, and go down to a lower WR then.

Of course, this means that the discretionary components of one's expenses must be fairly high, something like 25-30% of the total budget. One has to keep the fixed cost of living low, such as living in a smaller home, driving cars with less operating costs, etc..., and be prepared to cut back to basic when it is called for. People who like to spend discretionary money on travel are perfect for this lifestyle strategy.

Or one can be agile, hostile, and mobile like Uncle Mick likes to say. This is of course harder. One must be able to severely cut back, liquidate his expensive home, cars, and move to a mobile park or hit the road in an RV. Come to think of that, is it really so bad if you have to do so? You have had some good years, and the different lifestyle should be regarded as an adventure.

Well, not everyone can be like Uncle Mick, but I just thought I should bring this up.

 

[haha]

A simple method might be take 4% of current portfolio value (not starting value adjusted for inflation).

This idea is more robust wrt failure, but at the cost of higher income variability. I would prefer this. My income would have a hard time getting dangerously low. I could not live on my SS alone, but I am not so far from this that a small WR wouldn't suffice, and this would vey likely be covered by interest and dividends, even if these dropped off somewhat. Who would head to Europe when his portfolio was down 20% or more? I wouldn't even do this at a 10% drawdown.

To use an example from my life, I have ~60% equities. If these have a typical experience, and equities overall lose 60%, my drawdown would be
60% x 60%, or 36%. My fixed should be much less volatile, as the average duration is about 1 1/2 years, with very small credit risk. Say I went down 10% of my 40% fixed, or 4% more off my port. Added to the 36% drawdown on equities, I am now down 40% portfolio-wide. I wouldn't like to do it, but I would still be paying all my bills, eating well, warm and in my condo on less than 1% of the ugly new portfolio value. This is largely due to having a cheap lifestyle, living centrally where I need a moderate amount of heat no AC and no car, and being pretty healthy.

I would not like this, but even if securities suffered some more, or didn't bounce back, or inflation picked up less than disastrously, I should nevertheless be ok to stay in the game.

To me much bigger risks would accidents or sickness, or some boneheaded investment error.

Ha

 

[daylatedollarshort]

Well, if most of your portfolio is in TIPS, and COLA'd pensions and SS make up the rest of your income, then I see your point - the Monte Carlo factors are not a concern - you can do straight-line math in a fairly simple spreadsheet, the inflation factors are a wash.


I think we all are. I guess I'm just trying to put this in perspective. I'd say most people here who will need to rely on their portfolios for a significant portion of their future income, probably grew it by having a reasonably aggressive AA. Now I can see the value of diversifying that into TIPS, but it's a tough call to make on when to sell the market and also get decent rates on TIPS.

It's something I'll think about though, and this thread has helped open my eyes to that.

-ERD50

I think each person has to decide on the right degree of risk vs portfolio value vs. lifestyle level for themselves.

But just some food for thought beyond a certain income level, some studies show financial security may buy more happiness than extra income if it means always having to be worried about the stock market is doing or owning more stuff to take care of:

"When it comes to happiness, financial security is three times more important than income alone."

Thrive - Discovering the Secrets of Happiness around the World | Conscious Business & Travel with Bettina Gordon

In the U.S. one study found that income level to be $75K. But that is probably $75K with typical American buying habits, and not the LBYM of many here. For people with mortgage free homes, low cost of living locations, no car loans, low energy bills, kids grown, low environmental foot print living, less taxes to pay, maybe that amount could be cut quite a bit more for the same basic lifestyle.

I am sure there are many here who have enough to invest in stocks and can absorb a 50% loss in any one year or even thrive on it and see it as a great buying opportunity. I think the key is to know yourself. I am not one of those people at all. I would rather cut my expenses upfront and have more ongoing financial security.

 

[NW-Bound]

In the U.S. one study found that income level to be $75K. But that is probably $75K with typical American buying habits, and not the LBYM of many here. For people with mortgage free homes, low cost of living locations, no car loans, low energy bills, kids grown, low environmental foot print living, less taxes to pay, maybe that amount could be cut quite a bit more for the same basic lifestyle...

I wholeheartedly agree with that. I have posted before about how my mother, a widow in her 80s, lives comfortably alone in her modern 1,800-sq.ft. home with around $30K/yr.

I spend significantly more because I can, but if I need to cut back I would not think that is hardship.

I am sure there are many here who have enough to invest in stocks and can absorb a 50% loss in any one year or even thrive on it and see it as a great buying opportunity. I think the key is to know yourself. I am not one of those people at all. I would rather cut my expenses upfront and have more ongoing financial security.

I look at investing as challenging and fun. I want to be successful to prove to myself I understand this "stuff", but at the same time limit my spending so as not to be reliant on optimistic results.

In another post, you mentioned that you still have some stocks and bonds, so you are not entirely free of market variations either. Perhaps you meant that you are not reaching for outrageous results with risky stocks, but not everyone here goes for broke. Quite a few own MFs like Wellesley, which is quite conservative and tame.

 

[daylatedollarshort]

In another post, you mentioned that you still have some stocks and bonds. so you are not entirely free of market variations either. Perhaps you meant that you are not reaching for outrageous results with risky stocks, but not everyone here goes for broke. Quite a few own MFs like Wellesley, which is quite conservative and tame.

I just bring it up because the Fidelity RIP and reps keep recommending a higher stock allocation with greater potential one year losses for us when their own online planner shows we're okay with less stocks and risk. The investment industry and media do not make money from TIPS, I bonds and credit union CD ladders, and they are the ones pumping out most of the finance articles.

There are many posts here from people worried when the market tanks and even more worried when the market is high because it might tank, and even though they have top few percentile net worths, they aren't using their money to buy financial security and peace of mind.

Just thought I would make a post just in case there are any other financial cowards out there like me. The op asked how hard it is to retire at the market top, and one way to do it is to have a retirement plan that works with a low market AA.

 

[Willers]

(FIRECalc) doesn't know where in a market cycle you are (but neither do Monte Carlo calculators), it does just as it says, no more - it looks at you how you would have fared with that amount at each cycle in its history, and presents a historic success rate. Let's investigate this.

OK, it's easier to think in terms of history, since that is all FIRECalc does, so instead of saying Joe retires in 2016, let's say we are looking at his retirement on one of the past paths in FIRECalc history, like the 1960's - then we won't be trying to guess the future. So just as in your example, let's say that path shows a drop in his buying power from $1M to $600,000 in the first year. So he was drawing $35,900 the first year (3.59%), let's also assume no inflation this year for simple numbers. So his second year he is drawing the $35,900 on a $600,000 portfolio, and that's a 5.98% WR.

But that's OK - it is what happens as the portfolio dips and rises, the WR% changes. But we know that historically this initial 3.59% WR succeeded, so if the portfolio dropped, this newer higher % WR also passed. It would follow one of those squiggly lines, but never drop to zero before year 30 in the cycle, and the WR% would vary along the way.

What this means is that if Mary retired on year two of Joe's path, she had $1M the previous year and could have drawn the same $35,900 - but she didn't (and lets ignore any additions if she is still working). But now in year two her portfolio is down like Joe's and yes, she can draw $35,900 at 5.98% WR, and she will succeed just as Joe will.

Great explanation. Thank you.

It took me quite a while to come to this understanding when I started using FireCalc. What got me there was a graph (oversimplified) I ran across showing constant saving and market returns (I believe 30 years) and then constant retirement spending (another 30 years) with the retirement year in those often-used 60's and 70's years. It showed that, although the 1966 retiree had really poor post-retirement return, that retiree would actually have had more left than several other starting dates after 30 years of retirement because of its better pre-retirement returns.

Seeing that has made me worry a little less about sequence of returns. If I'm at FireCalc 100% (or other calculator, assuming you believe these are reasonable models) then worst-case is worst-case. Drops like this are factored in and SWR's change from year to year as ERD stated.

Now if worst-case really isn't worst case then the best investments will be food, guns and ammo.

I started thinking about this when I was trying to reconcile a 2008 vs. 2009 retiree. I kept thinking...why wouldn't there have there been enough to retire in 2008 if there was enough left in 2009? There probably often was. The difference is that 2009 would likely support a higher SWR based on the starting nest egg on the day of retirement. Any AA difference is, of course, ignored in this comparison.

 

[daylatedollarshort]

I couldn't find the original interview online any more with Bill Bernstein's views on the topic, but The White Coat Investor blog key snippets from it here:

http://whitecoatinvestor.com/bernstein-says-stop-when-you-win-the-game/?print=pdf

Summary -

When you have won the game, stop playing.

Stocks for a retired person can be nuclear level toxic because you have limited human capital years left to make up the losses.

After pensions and SS, save 25 times the remainder of what you need in safe assets like TIPS, SPIAs, and short term bonds.

Invest the rest in stocks if you like, but at least this way you won't have to worry about spending your retirement pushing a shopping cart under an overpass.

 

[NW-Bound]

...There are many posts here from people worried when the market tanks and even more worried when the market is high because it might tank...

... The op asked how hard it is to retire at the market top...

The market goes down, people are scared. The market goes up, people worry that it will reverse.

Retiring at the market is hard? How about retiring at the market bottom, particularly if it is unintentional due to job loss?

Come on, it's only money. Cheap living can be fun, like Uncle Mick keeps telling us. I believe him.

 

[haha]

Come on, it's only money. Cheap living can be fun, like Uncle Mick keeps telling us. I believe him.

Of all the people who post here, I think this attitude is likely to be less congenial to you than most.

Unless one is 25, cheap living can be endured, but few of us (including you I would guess) would like to experience it permanently. Well-to-do people extolling cheap living must mean something, but I don't have enough experience to know what.

Ha

 

[NW-Bound]

Well, it depends on "how cheap". Maybe not as cheap as Uncle Mick.

Many posters/worriers here have sufficiently high level of income and asset that I really think they can cut back 1/2 or at least 1/3 and still live as well or better than the average American does.

 

[robnplunder]

Come on, it's only money. Cheap living can be fun.

Been there, and done that. It's not fun. It's something you do to survive, or save for RE. Fun is basking in the sun sipping pina colada, and watching the waves roll in and out.

 

[NW-Bound]

Fun is basking in the sun sipping pina colada...

Well, pina colada is not expensive if you mix your own.

... and watching the waves roll in and out.

Beach bums do that day long.

 

[aja8888]

Beach bums do that day long.

Yeah, but at night they would rather not sleep in their 1982 Pinto...

 

[ERD50]

...
Just thought I would make a post just in case there are any other financial cowards out there like me. The op asked how hard it is to retire at the market top, and one way to do it is to have a retirement plan that works with a low market AA.

The discussion of TIPS is interesting to me. I have generally 'tuned out' TIPS, I recall that they once paid ~ 3% real (but I didn't act at the time), and they recently have been around 1%. Now 1% does not sound too interesting to me, since a 75/25AA has historically supported ~ 3% WR in the worst of times - though the portfolio stands the chance of being near-depleted, but not fail, and was likely to provide much more. More on this later, I see where TIPS could be a very good addition to a portfolio, even at these low rates, but first...

Regarding a 'plan that works with a low AA' - I still bristle a bit at that. A low enough WR has historically worked with any AA - so if the 'plan' is to have a conservative WR, that is a testament to the power of a conservative WR, not a conservative AA. An AA above ~ 40/60 with a low WR still did better (supports a higher WR at 100% success, and provides a chance for growth) than did an AA below ~ 40/60 at that same low WR.

This seems to often be stated as if higher AAs were trading volatility and the chance for a big pay-off against security (not failing). But that is not the case historically. A low AA gets you lower volatility, yes, but also lower success rates.

So if you want lower volatility and a comparable success rate, you also need a relatively lower WR. It's just not a factor of the AA by itself. Sorry if I seem obsessive about this point, but I think it's important, and I hate to see less precise wording give misleading impressions.

Now, if low volatility and a high success rate is what someone is after, and they can afford to build up the portfolio to support that lower WR, then that is what they should do. But I will add that that lower volatility is at least partially an illusion. The lower WR% means a larger portfolio, so if one added that cushion with a higher AA, their dips would be cushioned as well (in absolute terms, not %-wise). OK....

Back to TIPS. After looking at the long term real returns of a 75/25 in the worst periods that we try to protect against, I see that they are very low, in the 0% - 1%. As I mentioned earlier, looking in a simple straight mathematical way, a portfolio with zero real return will support a 3.33% inflation adjusted WR for 30 years, and a 2.5% WR% for 40 years (note - that calculation leaves you right at $0, totally depleted in the last year). So TIPS, even around 1% real, essentially guaranteed, should do the trick, right?

I say that, but the devil's in the details. I know there are tax implications with TIPs, and I guess we'd need to build a ladder, so I guess there are some unknowns there as well. But it is interesting, and I plan to look into it some more.

-ERD50

 

[ERD50]

Well, it depends on "how cheap". Maybe not as cheap as Uncle Mick.

Many posters/worriers here have sufficiently high level of income and asset that I really think they can cut back 1/2 or at least 1/3 and still live as well or better than the average American does.

I didn't work this hard and LBYM and scrimp and save and study investing and risk to live as well as 'average'!

-ERD50

 

[NW-Bound]

Yeah, but at night they would rather not sleep in their 1982 Pinto...

That's why you need to get an RV in good years when you are flush. I read an RV blog where the guy was skillful in finding a way to "stealth camp" in coastal CA towns, and enjoyed the cool ocean breeze at night. This is tough to do with my motorhome as it is still too large and would attract cops like crazy.

I didn't work this hard and LBYM and scrimp and save and study investing and risk to live as well as 'average'!

-ERD50

Eh, but you would be reduced to the average status only if/when the market downturn arrives, which it may not. And then, you already enjoy some "above average" years.

I give up! Y'all can worry all you want. I do not.

 

[photoguy]

Then, how about looking at the other side of the coin? As we do not know if we are headed into a bad period, why worry about it in advance? What's wrong with spending 4% instead of 2% or 3% if the market is going gung-ho now? An extra 1% now won't make that much difference anyway. Let's enjoy life until we see that the market stalls, and go down to a lower WR then.

I think this is perfectly fine but I look at how much actual dollars 4% is of my portfolio and I don't have the chutzpah to pull that out and spend it. Maybe after a few more years of withdrawals to get me used to spending without any income.

This idea is more robust wrt failure, but at the cost of higher income variability. I would prefer this. My income would have a hard time getting dangerously low. I could not live on my SS alone, but I am not so far from this that a small WR wouldn't suffice, and this would vey likely be covered by interest and dividends, even if these dropped off somewhat. Who would head to Europe when his portfolio was down 20% or more? I wouldn't even do this at a 10% drawdown.

Initially I was against a flat 4% of current portfolio draw because while it can't technically fail, it was very possible for the amount withdrawn to be less than the minimum needed to live on (i.e. healthcare and rent are fixed costs which can't just be reduced in tough times).

However, I've been thinking about this with ACA subsidies and realized that if we limited spending (and hence MAGI) in a down market we would naturally increase the subsidy amount. I think this type of feedback makes this much more attractive (for me at least).

 

[NW-Bound]

I think this is perfectly fine but I look at how much actual dollars 4% is of my portfolio and I don't have the chutzpah to pull that out and spend it. Maybe after a few more years of withdrawals to get me used to spending without any income...

I did not feel comfortable with 4% either. I was spending 3% until recently, when home repair/improvement projects (on 2 homes) bumped it up to 4%. But then, I also sat down to figure out my future SS, and that took away my concern. As you are quite younger than me, a WR lower than 4% would be more comfortable.

About the RV vagabond lifestyle, I was kidding because it is usually not an option for a married guy. But I am sure many single guys would not have a problem.

 

[dm]

I haven't read all the post in this thread. But I retired October 2007, which was pretty close to the top at that time. I won't lie and say I wasn't worried after the big drop that followed. I did keep a close eye on my spending and I did have some cushion figured in. I also had several year of cash available.

Now I just keep rebalancing. I actually have more in cash than usual, but that's only because I'm getting ready to buy a new house and I've rolled over a 401k into a IRA.

And back then the market was around 14,000.

 

[daylatedollarshort]

Regarding a 'plan that works with a low AA' - I still bristle a bit at that. A low enough WR has historically worked with any AA - so if the 'plan' is to have a conservative WR, that is a testament to the power of a conservative WR, not a conservative AA. An AA above ~ 40/60 with a low WR still did better (supports a higher WR at 100% success, and provides a chance for growth) than did an AA below ~ 40/60 at that same low WR.

This seems to often be stated as if higher AAs were trading volatility and the chance for a big pay-off against security (not failing). But that is not the case historically. A low AA gets you lower volatility, yes, but also lower success rates.

So if you want lower volatility and a comparable success rate, you also need a relatively lower WR. It's just not a factor of the AA by itself. Sorry if I seem obsessive about this point, but I think it's important, and I hate to see less precise wording give misleading impressions.

Now, if low volatility and a high success rate is what someone is after, and they can afford to build up the portfolio to support that lower WR, then that is what they should do. But I will add that that lower volatility is at least partially an illusion. The lower WR% means a larger portfolio, so if one added that cushion with a higher AA, their dips would be cushioned as well (in absolute terms, not %-wise). OK....

Back to TIPS. After looking at the long term real returns of a 75/25 in the worst periods that we try to protect against, I see that they are very low, in the 0% - 1%. As I mentioned earlier, looking in a simple straight mathematical way, a portfolio with zero real return will support a 3.33% inflation adjusted WR for 30 years, and a 2.5% WR% for 40 years (note - that calculation leaves you right at $0, totally depleted in the last year). So TIPS, even around 1% real, essentially guaranteed, should do the trick, right?

I say that, but the devil's in the details. I know there are tax implications with TIPs, and I guess we'd need to build a ladder, so I guess there are some unknowns there as well. But it is interesting, and I plan to look into it some more.

-ERD50

I am okay with rephrasing it to lower volatility or lower sequence of returns risk if you would like. The Fido RIP does use terms like more and less risk and conservative portfolio for lower stock allocations, so I think I am using conventional terminology.

I am happy to call it whatever you want. I just want an AA that avoids that sinking feeling of losing many years of retirement living expenses in a single week or even a single day in the stock market.

The Fido RIP says my current AA's worst historical year is -5%. Their balanced AA suggestion has a worst year of -41%. I see no need to take on that kind of risk. We've met with Fido reps in person and they kept telling us we needed stocks for growth and 80% of our income in retirement. Between taxes and savings we have never lived on 80% of our earned income. And with a conservative AA we can still save money in retirement. Why take on more risk when we are a risk averse, not big spenders type of household?

In terms of income compared to the U.S. and especially other developed countries we feel fortunate as it stands:

OECD Better Life Index

Why not just sit back and enjoy what we have and not have an AA where we have to worry about the market even when it is up (because that means it might drop)?

I'd rather work on figuring out how to have a very pleasant, low stress retirement using the Bill Bernstein won the game approach.

 

[explanade]

What are OMY and ********?

 

[NW-Bound]

Why not just sit back and enjoy what we have and not have an AA where we have to worry about the market even when it is up (because that means it might drop)?

I'd rather work on figuring out how to have a very pleasant, low stress retirement using the Bill Bernstein won the game approach.

There are quite a few posters here who have a lot of dividend stocks, and they said that they only cared about the dividend income which tended to hold up well through the Great Recession, and not looked at the value of the stocks.

The S&P is paying only 1.85% now, but one can get up to 2.5% with a basket of value stocks. Suppose you put your money in that black box, and just spend the 2.5% that it spits out, which increases with time too to match inflation, and not look inside that box. Would that make you feel OK?

Do you get better and more secure income than that 2.5%, I am curious?

What are OMY and ********?

OMY is One More Year of w*rk for people who want to beef up their stash some more. ******** is a retirement calculator similar to FIRECalc.