Target Number for FIRE

[daylatedollarshort]

In summary, the cost of playing it safe and not taking market risk is very large especially as one goes longer in the number of years.

Simply keeping up with inflation allows up to a 3.33% safe withdrawal rate over 30 years. 5 year TIPS are currently at inflation plus .73%.

I have not read any research that stocks are the best inflation hedge. Usually TIPS come out ahead of stocks but I would be interested in anyone has links to research articles to the contrary.

 

[HI Bill]

+1

Thread after thread here on ER show people thinking that they can simply play it safe by doing 0% or 20% in stocks and the rest in fixed for a long period of time... In summary, the cost of playing it safe and not taking market risk is very large especially as one goes longer in the number of years.

Yes, I'm concerned that a Greece-like (and Puerto Rico-like) economy collapse in the US is an eventuality, given our ever-increasing debt and deficit. Bonds are only good investments if those who sell them can pay them off. The US, and most countries who offer up bonds, are going on spending sprees that will eventually corrupt the bonds, IMHO. I would certainly not consider them safe. Just as Puerto Rico residents lost their retirement funds...(I do realize there were other factors in play there).

 

[copyright1997reloaded]

Simply keeping up with inflation allows up to a 3.33% safe withdrawal rate over 30 years. 5 year TIPS are currently at inflation plus .73%.

I have not read any research that stocks are the best inflation hedge. Usually TIPS come out ahead of stocks but I would be interested in anyone has links to research articles to the contrary.

Interest from TIPS is taxed. Thus, your after tax return is lower. How much depends on the real yield (.73%) vs the inflation wash yield. For example, if inflation is 2%, the return (assuming .73% real) is 2.73%. If you are in the 25% bracket, your after tax, after inflation return is .04%. With inflation at 4%, the after tax, after inflation return is -.45%.

Having said that, I agree that TIPS are a good hedge. That is why I have between 9-10% of my net worth in TIPS and equivalents (iBonds). Ah, to have those 3.8% real return TIPS again!

Some stocks would be better inflation hedges than others. Those who have pricing power to increase prices or who could leverage a commodity that was increasing in price would do well. Those who were impacted by rising input prices and/or wages would not. Here's an article that partially disagrees with what I am saying: https://www.pimco.com/en-us/insights/viewpoints/using-equities-to-hedge-inflation-tread-with-care/

 

[daylatedollarshort]

Interest from TIPS is taxed. Thus, your after tax return is lower. How much depends on the real yield (.73%) vs the inflation wash yield. For example, if inflation is 2%, the return (assuming .73% real) is 2.73%. If you are in the 25% bracket, your after tax, after inflation return is .04%. With inflation at 4%, the after tax, after inflation return is -.45%.

Having said that, I agree that TIPS are a good hedge. That is why I have between 9-10% of my net worth in TIPS and equivalents (iBonds). Ah, to have those 3.8% real return TIPS again!

Some stocks would be better inflation hedges than others. Those who have pricing power to increase prices or who could leverage a commodity that was increasing in price would do well. Those who were impacted by rising input prices and/or wages would not. Here's an article that partially disagrees with what I am saying: https://www.pimco.com/en-us/insights/viewpoints/using-equities-to-hedge-inflation-tread-with-care/

TIPS in retirement accounts are not taxed until the money is withdrawn and then they are taxed the same as any other asset class in a retirement account would be. Taxes depend on many factors including tax bracket, marital status, deductions, etc.

Stocks can have preferential tax treatment. They can have bigger potential gains than TIPS ever would. There are many good reasons to have a high AA in stocks, but from what I have read inflation protection isn't necessarily one of them:

"Despite these patterns, the relationship between inflation and individual equities remains complex and idiosyncratic. ... Broad equity returns have not intrinsically provided a good hedge against inflation."

Same source as your link:
https://www.pimco.com/en-us/insights/viewpoints/using-equities-to-hedge-inflation-tread-with-care/

 

[Retch The Grate]

I calculate and recalculate my target number in my head in the car on the drive to and from work. I estimate:
Housing
Transportation
Food
Medical
Entertainment/Travel/Gifts/All that discretionary spend

I do a range of estimates from what my bare minimum estimate of real expenses are if I move somewhere more affordable to lots of travel and fancy dining and toys and staying in the bay area. I do the estimate for just myself, and for myself and my wife (not sure she'll actually be comfortable stopping working, but I have estimates for what range that becomes possible for both of us as well as just for me). I use an estimate of 30% for taxes, probably high for the US and possibly low for Europe depending on if we do buy a castle in germany (way cheaper than houses in the bay area), so I multiply my estimate by 10/7 to get my necessary annual income. Then depending on how I'm feeling I multiply by 100/3 to get a guaranteed historically safe rate for all time periods, where any social security or inheritance is gravy, or by 25 if I'm assuming that SS and inheritance will cover the slight uncertainty in the 4% withdrawal rate.

Depending on assumptions I end up with a range of numbers from as little as 2.5M for myself with a comfortable life to 8.333M for both of us in the lap of luxury by our standards. I think my emergency "if I cut expenses below what my lifestyle with my wife is like now to my own actual bare minimum" and assume I'll be getting 70% of my social security and whatnot, that number is closer to 1.7M (and to be fair, even that has some overestimating since I start from a pessimistic tax rate that is higher than investments have been taxed at during my lifetime).

Or I'll go from the opposite end, and take a recent salary that I've been happy at (any of the numbers from my jobs in the last 5 years, which is a fairly big range), add on the value of health insurance and potential out of pocket expenses and estimate from there. I really don't like the number if I'm trying to replace my current income + my wife's current income + medical insurance + out of pocket max, however.

 

[COcheesehead]

+1 on this.

Thread after thread here on ER show people thinking that they can simply play it safe by doing 0% or 20% in stocks and the rest in fixed for a long period of time.

Firecalc shows:
4% 75 equity /25 fixed 30-year: 94.9% success rate
4% 50/50 30-year: 94.9%
4% 25/75 30-year: 80.3%
4% 20/80 30-year: 72.6% More than 1/4 of the scenarios fail
4% 0/100 30-year: 42.7% NOT GOOD

But, they then say that instead of using 4% they will lose a lower number. So let's look at 3%
3% 75/25 30-year: 100% success rate
3% 50/50 30-year: 100%
3% 25/75 30-year: 100%
3% 20/80 30-year: 100%
3% 0/100 30-year: 88% Again, you have better than a one in 10 chance of being wiped out in a given 30 year period.

How about 2.5%
2.5% 0/100 30-year: 100%
2.6%?
2.6 % 0/100 30-year: 98%
So to get to a 100% success ratio for 30 years, you need to reduce the SWR to under 2.6% of the starting portfolio.

For longer periods, the impact of "de-risking" is even worse:
4% 75/25 40-year: 85%
4% 50/50 40-year: 73.8%
4% 25/75 40-year: 43%
4% 0/100 40-year: 15.9% success rate

3.0% 0/100 40-year: 64.5%
2.5% 0/100 40-year: 86.9%
2.4% 0/100 40-year: 86.9%
2.3% 0/100 40-year: 86.9%
2.2% 0/100 40-year: 93.2%
2.1% 0/100 40-year: 97.2%
2.0% 0/100 40-year: 98.1%

In summary, the cost of playing it safe and not taking market risk is very large especially as one goes longer in the number of years.

This is one of those devil is in the details answers. When I plug my own numbers in Firecalc it tells me as of today, I can go as low as 18% equities and still hit my target at 100% over a 35 year time horizon. I have more than that in equities now, but I am just saying that your individual situation is what matters, not a broad brush stroke saying it can't be done with a low equity allocation.

 

[Gotadimple]

Here's an interesting take not only on the 4% rule but on withdrawals. "seven simple principles you need to know about withdrawing from your portfolio in retirement, the last of which is the very most important factor." From the blog "The White Coat Investor."
https://www.whitecoatinvestor.com/most-important-factor-retirement-withdrawal/