Stress-testing the 4% rule: How do you handle worst-case timing?

[SteveTX]

True, it happened in 2022, but that was not historically typical. With rates on the lowish side, it can certainly happen again.

I would also add that for many total return investors, that is one of the reasons why they may use a multi-year, period of their choosing, allocation in a bond ladder. Hence, probably no need to sell anything in a down market.

 

[jazz4cash]

I would also add that for many total return investors, that is one of the reasons why they may use a multi-year, period of their choosing, allocation in a bond ladder. Hence, probably no need to sell anything in a down market.

Laddering addresses a lot of these issues.

 

[GravitySucks]

Lucky to have retired in the early stages of a secular bull market so it never came up.

However, I did have plan B,C,& D in my pocket. If things go to hell there’s two options-cut your spending or find a new income source. Even now with a low chance of failure I still have a plan that I could take in a boarder.

 

[audreyh1]

If the fixed income was not enough to cover one's expenses.

There is also the case (and we have seen many threads on this during down times) of folks selling out of equities when the market is falling, out of fear they will not have enough to cover their retirement expenses.

I think if the fixed income is not enough to cover expenses, they either have a small allocation to fixed income, or a too small portfolio to support their retirement expenses.

 

[surprising]

As a side point, I always hear about not wanting to sell equities in a down period. If one has a fairly balanced portfolio and uses the concept of rebalancing, then since the equities have already gone down, why wouldn't one rebalance the portfolio by selling on the fixed income side?

This isn't truly rebalancing though, is it? The idea of rebalancing is to move money from overperforming to underperforming. This is to book profits on the successful side, and buy the underperforming at a lower entry. If you are just selling the overperforming, I'm not sure if it has the same impact to the portfolio over time.

 

[audreyh1]

This isn't truly rebalancing though, is it? The idea of rebalancing is to move money from overperforming to underperforming. This is to book profits on the successful side, and buy the underperforming at a lower entry. If you are just selling the overperforming, I'm not sure if it has the same impact to the portfolio over time.

He’s talking about withdrawals, part of living off your portfolio. You withdraw from your over performing assets as part of your rebalancing. The two usually go hand in hand.

 

[engineernerd]

I ran FI Calc with a simple set of inputs (30-year retirement, no Social Security or other midstream changes to income or expenses, asset allocation not changing over time, annual rebalancing) and adjusted the withdrawal rate to force just one failure year. The failure year was 1966. I tried this with a couple of different allocation inputs (55% and 85% stocks) and the year was 1966 for both.

I then used the same data in FIRECalc, and requested spreadsheet output for 1966.

The results showed portfolio failure was not due only to SORR but was also strongly influenced by inflation. The worst case over the entire US history from 1871 on was not a big market crash. It was stagflation.

 

[audreyh1]

From 1871 on the US suffered many financial crises. It was massive boom and bust repeated several times.

 

[HappilyRetired]

Having a few years expenses in cash is a great way to avoid worst-case-timing.

Historically, according to Dr.Jeremy Seigel, (professor Emeritus of Wharton College) the average BEAR market lasts 2.7 years, so he advises having 2.7 yrs of expenses in cash (less any pension and SS that you will receive whether we are in a Bear market or not). I.E. If your expenses are $10k a month, and your Pension and SS are $4K a month, then the net is $6k a month x 31 months = $186k. Keep this in the MM and you are good to go! My father did this and passed at 97 yrs , and never lost a days sleep. ALL the rest of his assets were in the NYSE, the best investment in the history of mankind....and that is a fact!

 

[Ballhawker]

Check out the TPAW Planner tool. It's a sound academically tested tool based on the Merton share theory. It has much flexibility on assumptions of future returns, risk tolerance and spending tilts so you can see a range of potential future outcomes. You can easily add multiple income streams like social security, rental income, pensions, etc, along with your investment portfolio to get your total spending in your decumulation phase over time. It spits out a simple portfolio withdrawal amount each month and re-amortizes the remaining invested funds over the lifespan duration you select.

If you are a little bit flexible on your withdrawals, you can do better than most static withdrawal plans like the 4% rule by using the TPAW Planner. I use the SPAW method within the TPAW Planner tool because I don't want to fuss with adjusting my asset allocation over time. I've got my nest egg fully invested in VSCGX and intend to keep it there for the duration. The tool tells me how much I can safely withdraw each month. It's like a personal, zero cost variable annuity that has a zero chance of failure, no matter what the future brings.

https://tpawplanner.com/learn

 

[TickTock]

There's no reason to avoid selling assets.

Total return is all that matters.

I have no issue with selling assets.

But, in retirement total return is not all that matters. Volatility (SORR) matters as well. Managing a portfolio when withdrawals are taken is a different game than when yearly additions are being made.

 

[FD1000]

I "love" income investing. I wrote the following in 2023.

Let's show the case of SPY vs PDI during 2018 to 2023
Suppose you have a portfolio worth $1M, and you need a $4000 monthly withdrawal; the income myth says that since you don't need to sell shares, it's a better choice. The numbers below say otherwise.

It shows that after 5 years SPY grew from one million to 1.44 million, but PDI shrank to 747K. Pay attention to the income; PDI generated a lot more income (4 times more = about 10% annually), but it didn't matter. SPY has been a much better choice. If you owned SPY, you had to sell shares; it didn't matter. Your portfolio was much higher which is the only thing that counts.
(www.portfoliovisualizer.com/backtest-portfolio?s=y&sl=1PSjvYOEtxqPILBB1pljiQ)

Can income investing be successful? Of course it can, but only based on TR.
If you have enough money, you can do whatever. You can make it with 20-100% in stocks, bonds, or leveraged CEFs. That doesn't mean it was the right choice.

Income stock investing isn't even a guarantee for better risk/SD in the future.

This reminds me of my friend. His pension covers all his expenses. He believed in the income myth. In 2010 he split his portfolio 50/50 growth/income stocks. He bought dozens of stocks, among them MSFT for the growth and IBM for the income.
I asked him, "in 2010 which company was better in your opinion?" His reply was, "MSFT was much better, but I bought IBM for the income."
I showed him the chart below. He finally got it. Repeat after me: TR=total returns, is the only game in town.
See the chart (schrts.co/PYcwcpuu).

BTW, I have owned 2-3 bond funds; all distributions have been invested automatically. I don't pay too much attention to the dist, only the risk-adjusted returns. I sell shares any time I need money.

 

[keppelbay]

There isn't one 'right' solution for everyone. Focus on TR works for some. Focus on cash flow works for others. Investor psychology differs.

 

[Koolau]

True - but, as recent history has shown, it is possible for fixed income (at least bond funds) to also fall during a down market, so even selling fixed income might be at a loss.

Having to think about and deal with these things just makes it easier for me to just keep a relatively large cash position. But then again, I'm not the sharpest tool in the shed .

Agree that having extra cash-like funds can help prevent selling depressed investments. It "can" cost you money in the long run but the peace of mind may well be worth it. It is for me! I already have enough, so don't need to swing for the fences. Consistent base hits are good enough for me.

 

[audreyh1]

True - but, as recent history has shown, it is possible for fixed income (at least bond funds) to also fall during a down market, so even selling fixed income might be at a loss.

Having to think about and deal with these things just makes it easier for me to just keep a relatively large cash position. But then again, I'm not the sharpest tool in the shed .

I don’t worry about rebalancing when everything is down. They won’t all be down the same amount. I also have a percentage in cash in my portfolio.

 

[FlyingCircus]

A 30% decline followed shortly thereafter by a 20% decline and then otherwise normal returns is unnecessarily pessimistic. Has never happened.

What?
"The S&P 500 dropped approximately 57% from its peak in October 2007 to its trough in March 2009. This 17-month bear market saw the Dow Jones Industrial Average (DJIA) fall over 54%, representing the most severe downturn in modern history since the Great Depression.
Federal Reserve History +5

FC

 

[Out-to-Lunch]

What?
"The S&P 500 dropped approximately 57% from its peak in October 2007 to its trough in March 2009. This 17-month bear market saw the Dow Jones Industrial Average (DJIA) fall over 54%, representing the most severe downturn in modern history since the Great Depression.
Federal Reserve History +5

FC

But it didn't go on to have "otherwise normal returns." It went on a quite a tear from there.

 

[audreyh1]

But it didn't go on to have "otherwise normal returns." It went on a quite a tear from there.

I didn’t understand that distinction at all. If things go badly off, the situation can persist for a while so you better be prepared to ride it out for a while.

 

[FlyingCircus]

But it didn't go on to have "otherwise normal returns." It went on a quite a tear from there.

Reviewing a chart from the era might be instructive. SPY did not recover to its 2007 high until December of 2012 - 5+ years. The number of people who truthfully simply held through a 57% decline, kept DCAing and all the way through that recovery is vanishingly small. Yes, from 2013 on the market went on quite a tear - except for the 18 months from 1/2015 through mid 2016.

2000 to the end of 2012 was the "lost decade" for stocks, as well. From September of 2000 to the bottom in February 2003 the S&P dropped 40%, and the Nasdaq was much worse.

So it's happened twice in the last 20+ years. Excluding the lesser shocks of 2020 and 2022, numerically speaking.

FC

 

[RetiredHappy]

In our case we started to have Fidelity manage our investments in 2008 when we left our megacorp job. During that time until 2013, the value of the investments dropped by half. We moved the money over to Merrill Lynch in 2013. So we were never out of the market but also never get caught without being in the market when it recovered.