Is There An Unlimited Duration SWR?

[DangerMouse]

How long will my retirement savings last?

The attached chart in the Sydney Morning Herald shows spend rates vs earn rate and how long it should last

 

[HFWR]

One can calculate the present value of a perpetuity, but it's only as good as the input; i.e. GIGO...

As for technology, I've never had the spendcome to be an early adopter, but I do like my gadgets!

 

[Midpack]

You need an IPad, which is essentially an ITouch or non-talking IPhone for seniors . DW loves it and it has replaced her desktop (now defunct anyway) and laptop. Only problem for me is that I HATE typing on a a screen. You can buy external keyboards, but no one wnats to carry those around.

The iPad is tempting, but I know I don't need it, so I stay with my iTouch for now because I know the Galaxy and other tablets will drive the price down and features up in that market segment. Right now the Galaxy is $399 (quite a bit less than an iPad) but a 2 yr service contract is required. But a wi-fi only version has to come eventually, that's when they'll probably get me to buy. It's not the price of the devices that bug me, it's the monthly fees and contracts. Wi-fi is good enough for me and I suspect it will only become more available, we'll see. YMMV

 

[Midpack]

Thanks for all the earlier replies on unlimited duration SWR. I have run FIRECALC for all sorts of scenarios, though I had never run really short durations, those results were alarming and enlightening but understandable. I was thinking under 3% was pretty safe in perpetuity (40-50 years in practical terms) and hope to be under 2.5% myself. Thanks...

 

[chinaco]

I didn't read all the posts...

But if fixed investments were used, there is a basic calculation for a perpetuity. But there are no perpetual bonds to back it... except those issued by the British govt way back.


IMO - You could do it by using a portfolio of stocks and bonds if you were willing to do periodic resets and possibly lower your payout (if needed).

 

[Arnie]

Don't you people ever watch TV? In a few years you won't need a pad or a keyboard. You'll have glasses (or contacts, or retinal implants), and use gloves with Wii technology to detect the finger and hand movements on your virtual keyboard. Only until voice commands become reliable, though.

A keyboard, how quaint.
YouTube - hello computer

 

[harley]

How long will my retirement savings last?

The attached chart in the Sydney Morning Herald shows spend rates vs earn rate and how long it should last

Interesting that they don't show 3 or 4%. Obviously intended for the lumpen proletariat.

 

[Independent]

You need an IPad, which is essentially an ITouch or non-talking IPhone for seniors . DW loves it and it has replaced her desktop (now defunct anyway) and laptop. Only problem for me is that I HATE typing on a a screen. You can buy external keyboards, but no one wnats to carry those around.

You sound like me. I thought this was interesting,Inspiron

it looks like the right idea, but I'll wait for them to work the bugs out.

 

[MichaelB]

Some comments on technology. The point isn't IPads or 3D TVs. It is the products and services that are available to us due to technological innovation that did not exist 40 years ago or were not widely available. They have a cost, many times unavoidable, but are not considered inflation. Some are mandatory standard of living improvements like automotive air bags and seat belts, MRIs, expensive pharmaceuticals, advanced treatment of life threatening conditions. These things cost money, are included in insurance premiums or auto costs, yet are not considered inflation. They increase the real expense level.

Other items, such as microwave ovens, cordless telephones, home computers, cable tv, cellular telephone, are also net increases to real spending. I think it is unrealistic to assume a particular standard of living is acceptable 30 or 40 years later with no change or improvement. The question is not if it is possible but if it is desirable. I feel that it is more prudent to factor into a withdrawal rate calculation a real increase in spending over time to compensate for a continual improvement in living standards. Somewhere between 0.5 to 1%.

Regarding age-based spending, personal experiences aren't conclusive, especially on this forum where LBYM and thrift are the norm. It seems to me that spending composition will change but there is no reason it would decline and many reasons it would increase. Personal and health related services can be substantial, costly but also desirable, and have a positive impact on one's quality of life. The fear of running out of money may move people to forgo these services. Is this spending less voluntary or forced? The same is true for travel - there may be a desire to travel but only expensive options are available due to health or physical condition.

Assuming spending needs will decline with age creates the risk of unfulfilled needs that might have significant impact on quality of life.

Sorry for the delay in responding - it's winter and we have new house guests from the north.

 

[obgyn65]

I would say 3.5%

There are a lot of retirement and/or financially savvy people here, wonder what the consensus view might be for this question?

 

[Nords]

I would say 3.5%

Now the challenge is to drag that number out to five or six significant figures while having "an open and honest SWR discussion"...

 

[REWahoo]

...while having "an open and honest SWR discussion"...

Hocurse pocus...

 

[jacob]

Read A History of Interest Rates, which goes back to Roman times, and you'll find that historically "3% real" returns have been the norm---this corresponds well with the overall growth rate of nature, e.g. trees, so it makes sense.

The one exception is when/if trade breaks down, like during the dark ages, but I presume if that happened, you'd have other things to worry about.

Interest rates go up whenever uncertainty goes up. The more chaos, the higher the rate, until the point where you can't borrow at all. The Romans enjoyed about the same financial rates (3-6%) on their housing loans as we do.

From a historical perspective, the 20th century (and the 21st by extension) has been something of an aberration---it is the first time when finances has been significantly severed from "the physical world" (gold, finance, service) resulting in more bouts of inflation.

 

[ERD50]

Read A History of Interest Rates, which goes back to Roman times, and you'll find that historically "3% real" returns have been the norm---this corresponds well with the overall growth rate of nature, e.g. trees, so it makes sense.

Interesting idea. Maybe I should buy bamboo futures?

-ERD50

 

[Arnie]

I was thinking about a poll on pine trees versus oak trees.

 

[cjking]

Using Shiller's data, I explored what withdrawal rate would preserve capital over the whole period for which he computed PE10. I think the period in question was something like 1880 to 2009. I found that a withdrawal rate of something like 83%/PE10 would leave the initial sum intact in real terms after 129 years. I believe PE10 is currently about 24, and I usually round the factor of 83% down to 80%, so I would say that you could take 3.3% (less fund management cost) from a 100% equity portfolio, at the moment.

(Note that the withdrawal rate is not fixed, you continually recalculate it along the way. This doesn't make income very volatile, it's not affected by changes in the price of shares, it only varies with the ten year average of profits, which is a relatively stable quantity.)

 

[cjking]

It's worth adding that at the height of the 2000 bubble, the withdrawal rate would have been below 2%. Considering there were times in the late nineties when you could have got up to 4% from TIPS, this would have told you something about the wisdom of being invested in equities then.

Edit: just checked the figures, the all-time low for withdrawal rate calculated in this way was December 1999, 1.8%. A relatively recent high was July 1982, when the withdrawal rate would have been 12%! (Note the withdrawal rate is varying inversely with prices, which is why change in prices (or portfolio value) doesn't actually affect the dollar income you take.)

 

[cjking]

For those skeptical about a 12% withdrawal rate, I've looked at a retirement starting on that date with $1 million capital. Up to November 2010, the average monthly income would have been $8,400, the minimum $6,800 and the maximum $10,500. The final balance would be a fraction under $3 million. All figures in real terms, so the real value of capital has tripled over a period in which annualised average income withdrawal was 10% of the initial balance. 1982 was a good time to put $1 million into equities.

 

[haha]

Using Shiller's data, I explored what withdrawal rate would preserve capital over the whole period for which he computed PE10. I think the period in question was something like 1880 to 2009. I found that a withdrawal rate of something like 83%/PE10 would leave the initial sum intact in real terms after 129 years. I believe PE10 is currently about 24, and I usually round the factor of 83% down to 80%, so I would say that you could take 3.3% (less fund management cost) from a 100% equity portfolio, at the moment.

(Note that the withdrawal rate is not fixed, you continually recalculate it along the way. This doesn't make income very volatile, it's not affected by changes in the price of shares, it only varies with the ten year average of profits, which is a relatively stable quantity.)

This seems quite an intersting approach to me, but I do not understand the part that I bolded. Easy for me to accept that PE10 (or perhaps other valid approaches to valuation) would give a much better estimate of a safe withdrawal rate going forward than an eternal 4%. What I don't understand from your description are the exact operations that one would follow to mimic what you tested.

Could you comment? Or better yet just give a recipe?

Another question. I assume that in theory this applies only to a 100% .SPX fortfolio?

Ha

 

[donheff]

For those skeptical about a 12% withdrawal rate, I've looked at a retirement starting on that date with $1 million capital. Up to November 2010, the average monthly income would have been $8,400, the minimum $6,800 and the maximum $10,500. The final balance would be a fraction under $3 million. All figures in real terms, so the real value of capital has tripled over a period in which annualised average income withdrawal was 10% of the initial balance. 1982 was a good time to put $1 million into equities.

I take each year you calculate PE10/83 and apply that figure to the remaining portfolio? Thus the withdrawals changes but not as rapidly as with a percentage against the price of the portfolio. If you are a spend it down before it goes person (seems like a fair number around here) how and when would you adjust the rate?

 

[cjking]

The presumed portfolio is the S&P 500. I'd guess that other well-diversified equity portfolios would have a high correlation with the S&P 500, so it would be a good guide for them as well.

The implementation is fairly simple - get the latest value of PE10, divide 80% by PE10 to get an annualised withdrawal rate. So if PE10 is 24 the rate is 80%/24 = 3.33%, if it's 16 the rate is 80%/16 = 5%. Obviously if calculating monthly or quarterly income then that figure gets further divided by 12 or 4.

In case there's anyone this isn't obvious to: when PE10 is 24, that means a dollars worth of S&P500 is 24 times the average level of S&P 500 annual earnings (profits) over the last ten years, or putting it another way, each dollars worth of S&P 500 has an underlying yield of 1/24 = 4.17%. In theory this should be a safe withdrawal rate, in practise historically it seems you need to knock (17% rounded to) 20% off this to be safe. (I'm not sure why - possibly a reverse-DCA issue.) So when PE10 is 24, withdrawal rate is 80%/24 = 80% * (1/24) = 80% * average_annualised_profits = 80% * 4.17% = 3.33%.

PE10 stands for P/E10, so if E10 (the fairly stable ten year average of profits) is unchanged between one review date and the next, and if prices have increased by 10% then PE10 has increased by 10%, and when you calculate your income you get unchanged income:-

new_income = new_balance * 80% / new_PE10
= (old_balance * 110%) * 80% / (old_PE10 * 110%)
= old_balance * 80% / old_PE10
= old_income.

So a change in prices, up or down, however big or small, makes no difference to the dollar amount of income. Only a change in underlying profits changes income.

One wrinkle I can think of is that in the speadsheet on his web site, Shillers data is necessarily a little behind the current date, and I think that sometimes the most recent figure gets revised as data comes in. Therefore it might be worth using the figure from (for example) 3 months earlier. If you do, then also use the portfolio value at that time. So if PE10 was 24 three months ago, then the withdrawal rate for three months ago is 3.33%, and your annualised income is 3.33% times what your portfolio balance was 3 months ago.

 

[cjking]

I take each year you calculate PE10/83 and apply that figure to the remaining portfolio?

You use the value the portfolio had at the date of your PE10 figure.

If you are a spend it down before it goes person (seems like a fair number around here) how and when would you adjust the rate?

I think you're asking how to adapt this method if you don't want to preserve capital?

I believe you can't simply increase the withdrawal rate without starting to encounter sequence-of-returns issues that carry unacceptable risks. For people with a very long horizon, this is the maximum SWR. What you can do, as your horizon shortens, is at each calculation ask yourself what withdrawal rate you would have if you were to switch your portfolio to safe non-volatile assets and run it down. (The safe assets could be an inflation-linked SPIA and/or TIPS. There are no sequence-of-returns issues with non-volatile assets.) As you age, the income you could generate from the latter strategy increases, given that your capital is being spread across fewer and fewer years. When a equal income becomes possible, you can consider making a once-only permanent switch of some or all of your portfolio. (If you switch only part then you run the two strategies separately, and can make the same decision with regard to the remainder of the equity portfolio at each future review.)

You might feel that having a slightly more stable income is not enough reason for switching to safe assets as soon as it becomes possible. In that case you could set yourself a target of saying you will only switch when you can increase your income by doing so. For example, you might decide to take a somewhat fluctuating income from 100% equities until switching to 100% safe assets would increase your income by 25%, or any other arbitrary percentage that appeals to you.

Note that in addition to your age, when you can switch will also be dependent on unpredictable fluctuations in equity markets, with rises tending to decrease the ages at which switching is possible, and falls increasing them. (There may be multiple ages when switching is possible because market fluctuations may mean you can switch one year but not the following one, then be able to switch again in a subsequent one.) So this switching algorithm can be seen as a opportunistic timing decision that gets some or all of your portfolio permanently out of equities at a relatively good time.

 

[cjking]

As an example of the switching decision in practise, someone who is happy to run out of money in precisely 30 years time (doesn't want an SPIA) might calculate a withdrawal rate from safe assets for real returns of 0%, 1% or 2% respectively as being (in Excel) PMT(0% or 1% or 2%,30,-1) = 3.3%, 3.9% or 4.5% respectively. All of these are equal or better than the 3.3% withdrawal rate from equities, so it is possible to switch now.

If the same person were ten years younger they would substitute 40 for 30 in the PMT function and get estimated incomes of 2.5%, 3.0% or 3.7%, so from these three possible returns from safe assets, only a 2% real return is going to give them a higher income than equities.

 

[Independent]

Using Shiller's data, I explored what withdrawal rate would preserve capital over the whole period for which he computed PE10. I think the period in question was something like 1880 to 2009. I found that a withdrawal rate of something like 83%/PE10 would leave the initial sum intact in real terms after 129 years. I believe PE10 is currently about 24, and I usually round the factor of 83% down to 80%, so I would say that you could take 3.3% (less fund management cost) from a 100% equity portfolio, at the moment.

(Note that the withdrawal rate is not fixed, you continually recalculate it along the way. This doesn't make income very volatile, it's not affected by changes in the price of shares, it only varies with the ten year average of profits, which is a relatively stable quantity.)

Thanks for posting.

I've seen other ideas about varying withdrawal rates by P/E ratios, but this one is simple to implement and has a nice mix of responsive/stable.

 

[yakers]

Fixed Percentage

I think I read on Bob's financial site that taking a fixed % is not an optimal withdrawal system in terms of buying power. But if i can live with volatile returns then how do I calculate when taking say 5% at the end of each year results in a loss of buying power from a portfolio? I assume I couldn't actually run out of money this way but might lose buying power to inflation. I like this approach 1) because it is simple 2) I can live with volatility and 3) should last 'forever'. Just want to understand the possible loss of buying power.