Interesting Chart on 4% rule-->Why worry?

Have a question about your personal investments? No matter how simple or complex, you can ask it here.
Post Reply
Topic Author
floatingdoc
Posts: 147
Joined: Sun Jan 03, 2010 1:13 pm

Interesting Chart on 4% rule-->Why worry?

Post by floatingdoc »

Here is a very interesting Chart I came across from Wade Pfau on a 50/50 portfolio and many rolling 30 year periods. It shows that only a very few occasions did a UNDER 4% withdrawal become necessary to preserve not only nominal wealth after 30 years but even inflation adjusted wealth after 30 years. Am I missing something here? I know everyone is saying to expect lower equity returns going forward but, look how many 30 year periods afforded a much higher SWR!


http://wpfau.blogspot.com/2012/06/leavi ... er+Blog%29
User avatar
G-Money
Posts: 2867
Joined: Sun Dec 09, 2007 6:12 am

Re: Interesting Chart on 4% rule-->Why worry?

Post by G-Money »

Was 4% a SWR in Japan these last 30 years? Seems like a better proxy for future expected returns than using the historical returns from one of the biggest and most prolonged bull runs in world history.
Don't assume I know what I'm talking about.
User avatar
1210sda
Posts: 1865
Joined: Wed Feb 28, 2007 7:31 am

Re: Interesting Chart on 4% rule-->Why worry?

Post by 1210sda »

Interesting.

Table 4.2 shows it would take 4.04% MWR (1966)to deplete your wealth after 30yrs. It implies that anyone following Wade's assumptions (50/50, etc) using a 4.0% MWR would not have run out of money in any 30 yr period from 1926 thru 1982/2011.

Yet, for the future, Wade has stated that you will probably need to have a MWR of less than 2%.

1210
Topic Author
floatingdoc
Posts: 147
Joined: Sun Jan 03, 2010 1:13 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by floatingdoc »

The study shows a time period including 1966--->1982, one of the longest of secular bears in history. Those secular bears of which there have been 3 since 1900 have lasted 16 years, 21 years and 17 years. They were 1906-1921, 1929-1949 and 1966 thru 1982. We are now in one also 2000---->?

If you are a current investor saving for accumulation, then I am convinced times have never been better to be accumulating shares. I am waiting for the next secular bull, hopefully to show up around 2019 when I project to pull the plug on work!
User avatar
nisiprius
Advisory Board
Posts: 52211
Joined: Thu Jul 26, 2007 9:33 am
Location: The terrestrial, globular, planetary hunk of matter, flattened at the poles, is my abode.--O. Henry

Re: Interesting Chart on 4% rule-->Why worry?

Post by nisiprius »

The only things you're missing are that

1) these SWR studies are not very consistent with each other;

2) are sensitive to assumptions;

3) depend highly on the chance of low-probability events.

Unfortunately, the chances of low-probability events are the kinds of events that most difficult to determine. Even when the system is statistically well-behaved, which the stock market probably is not, determining them accurately depends on having more data than there usually is. And these are the probabilities that are most affected by "fat tails" and any departure from statistical regularity.

The whole of human experience is that rational, scientific efforts to estimate the probability of low-probability events consistently underestimate them. Not just by a little, but by many many orders of magnitude. Before the events at Three Mile Island, the Rasmussen report had estimated that events of that severity ought to occur no more often than once in 27,000 years. The failure of LTCM was a ten-sigma event, an event whose probability of occurring should have been 0.00000000000000000000076% and ought to have occurred once in 7e24 years, or 9 billion times the age of the universe. Did LTCM really hit a one-in-7,000,000,000,000,000,000,000,000 jackpot, or were their Monte Carlo simulations off by a factor of a sextillion or so?

The problem is that for any specific sequence of returns, a portfolio failure will occur when the withdrawal rate is higher than the rate that would draw it down to exactly zero in 30 years. Well, when you think about it, that is a very unstable "death spiral" scenario, because once the portfolio starts to fall short of maintaining real value, the constant-real-value withdrawals represent larger and larger percentages of the partially-deplete portfolio. By the time it is, let's say, half depleted, those "4%" withdrawals are really 8% withdrawals. At that point, it takes a near-miraculous bull market to build it back.

So, all these studies are trying to assess a brittle situation. They are trying to tell you how far you can safely bend a potato chip. One thing they have in common is that it almost always comes out that 3% is safe, and safe almost independent of portfolio allocation. But that's not what people want to hear. They are greedy, and they want to skate on the thinnest ice they can.

The other thing they have in common is that they all say your portfolio is safe if you are "flexible," i.e. prepared to cut back when you notice that your portfolio is shrinking. Well, duh. That's the common-sense approach Taylor Larimore advocates. Adjust your spending to your best estimate of what you can afford. It's how you regulate spending in your preretirement life--you don't do Monte Carlo simulations on personal income trajectories, you spend what you can afford. Taylor tells us that "This is what most people do and it works." Since Mr. Larimore is, in fact, retired, I give his opinions some credence.
Last edited by nisiprius on Sun Jun 17, 2012 11:05 am, edited 2 times in total.
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.
User avatar
matjen
Posts: 2189
Joined: Sun Nov 20, 2011 10:30 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by matjen »

floatingdoc
If you are a current investor saving for accumulation, then I am convinced times have never been better to be accumulating shares. I am waiting for the next secular bull, hopefully to show up around 2019 when I project to pull the plug on work!
From your keyboard to God's ears!
A man is rich in proportion to the number of things he can afford to let alone.
Topic Author
floatingdoc
Posts: 147
Joined: Sun Jan 03, 2010 1:13 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by floatingdoc »

Of course the estimation of very rare events is all we have to go on, as well as any event in the future. I was just struck by the PROPORTION in the table of numbers above 4%
User avatar
Raybo
Posts: 2244
Joined: Tue Feb 20, 2007 10:02 am
Location: San Francisco
Contact:

Re: Interesting Chart on 4% rule-->Why worry?

Post by Raybo »

One of the worst years to start retirement, according to the chart, was 1937, the year after the second major dip of the great depression. It is just another bad year in the chart, but that is much more a possibility today than at anytime in my life history (I'm 60). So, while it is comforting to see all those 6% and 7%, I feel as if considering the past few years should also be part of the plan going forward. It isn't like 1937 just happened out of nowhere.

As for me, I need between 3% and 4% to live my current retired life. While I would like to be in a position to be at 2%, I'm not. I am buoyed by these kinds of studies and fully believe that a WR between 3% and 4% is sufficient for someone who is happy consuming his entire pile in retirement.

But, certainty on this point is not possible without looking back after living through it.
No matter how long the hill, if you keep pedaling you'll eventually get up to the top.
patrick
Posts: 2594
Joined: Fri Sep 04, 2009 3:39 am
Location: Mega-City One

Re: Interesting Chart on 4% rule-->Why worry?

Post by patrick »

floatingdoc wrote:Here is a very interesting Chart I came across from Wade Pfau on a 50/50 portfolio and many rolling 30 year periods. It shows that only a very few occasions did a UNDER 4% withdrawal become necessary to preserve not only nominal wealth after 30 years but even inflation adjusted wealth after 30 years. Am I missing something here? I know everyone is saying to expect lower equity returns going forward but, look how many 30 year periods afforded a much higher SWR!


http://wpfau.blogspot.com/2012/06/leavi ... er+Blog%29
Judging from current interest rates we should expect lower bond returns in the future. The combination of poor bond returns and poor stock returns at the same time is the real danger -- and one that can't be avoided by either a stock heavy or a bond heavy portfolio.
pkcrafter
Posts: 15461
Joined: Sun Mar 04, 2007 11:19 am
Location: CA
Contact:

Re: Interesting Chart on 4% rule-->Why worry?

Post by pkcrafter »

Wade's withdrawal rates in the OP's linked paper are without fees. I assume no taxes either, although this is not mentioned. I think any withdrawal rate calculated on the assumption of spending down assets to zero after 30 years is completely unrealistic. Furthermore, withdrawal studies believe the hapless investor is a complete idiot incapable of making reasonable adjustments when prudent. Anyone with with an iota of common sense can increase the chances of a successful retirement by treading lightly in difficult times.

Here's another of Wade's papers showing the 2010 retiree's safemax rate of 1.8%.

http://www.fpanet.org/journal/CurrentIs ... wRetirees/

Paul
When times are good, investors tend to forget about risk and focus on opportunity. When times are bad, investors tend to forget about opportunity and focus on risk.
User avatar
1210sda
Posts: 1865
Joined: Wed Feb 28, 2007 7:31 am

Re: Interesting Chart on 4% rule-->Why worry?

Post by 1210sda »

So which is it.....4% or 1.8%. There is a 55% difference between the two.

BTW, I fully agree that SWR's or MWR's are very useful for planning purposes, but once you get "there" (distribution stage) then you have to be practical and use common sense.

1210
User avatar
GregLee
Posts: 1748
Joined: Wed Oct 27, 2010 3:54 pm
Location: Waimanalo, HI

Re: Interesting Chart on 4% rule-->Why worry?

Post by GregLee »

Studies like this don't tell me what I want to know about spending down my portfolio during my retirement, it seems to me. I'd like to take out each year the maximum that leaves me reasonably safe from not having enough to live on for the remainder of my retirement. Since each year during retirement, my life expectancy changes, the value of my remaining portfolio changes, prevailing interest rates change, and probably other factors that don't occur to me right now, but which could be estimated in advance, that maximum safe amount is going to vary in a rather complicated way from year to year. But we have computers now that should let us cope with the complications. Why can't studies of safe withdrawals be more realistic? Why stick with a 30 year retirement period? That's not what we're interested in.
Greg, retired 8/10.
dbr
Posts: 46181
Joined: Sun Mar 04, 2007 8:50 am

Re: Interesting Chart on 4% rule-->Why worry?

Post by dbr »

GregLee wrote:Studies like this don't tell me what I want to know about spending down my portfolio during my retirement, it seems to me. I'd like to take out each year the maximum that leaves me reasonably safe from not having enough to live on for the remainder of my retirement. Since each year during retirement, my life expectancy changes, the value of my remaining portfolio changes, prevailing interest rates change, and probably other factors that don't occur to me right now, but which could be estimated in advance, that maximum safe amount is going to vary in a rather complicated way from year to year. But we have computers now that should let us cope with the complications. Why can't studies of safe withdrawals be more realistic? Why stick with a 30 year retirement period? That's not what we're interested in.
Computers or no, there isn't an adequate description of how investments evolve to permit the estimate you want to make.

However, this paper may be an example of something in that direction:

http://www.kitces.com/assets/pdfs/Kitce ... y_2008.pdf

Also, if you want more realistic results, there are any number of retirement calculators that attack the problem you describe. Safe withdrawal studies are not and are not intended to be plans for actual retirements.
User avatar
GregLee
Posts: 1748
Joined: Wed Oct 27, 2010 3:54 pm
Location: Waimanalo, HI

Re: Interesting Chart on 4% rule-->Why worry?

Post by GregLee »

dbr wrote:Computers or no, there isn't an adequate description of how investments evolve to permit the estimate you want to make.
I don't see the problem. How much longer you can expect to live is obviously very important in estimating, year by year, how much you must leave in your portfolio to fund the remainder of your retirement. And the life expectancies of individuals of various ages are known -- they're routinely used in annuity calculations. And how your age differs with time is simple enough to calculate (every year you get a year older). So why not include that in the calculation?
Greg, retired 8/10.
User avatar
steve roy
Posts: 1855
Joined: Thu May 13, 2010 5:16 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by steve roy »

Let us face facts:

If you rely on some mechanistic "safe withdrawal rate" you are asking, nay begging, for trouble. You have to adjust your life-style and accompanying expenditures to fit the cash flow you've GOT, not the cash flow you hope for if everything goes swimmingly.

Taylor and Nisi are stating the neon-colored obvious when they tell people they have to be flexible. It's one thing to stay the course when you're accumulating. It's quite another to stay the course at a 4% or 4.5% withdrawal rate when your stash is melting like a glacier in Samoa. You have to reassess, downsize the living quarters, get a part-time job until the situation rights itself.

In a month or a year, Europe could crash completely, taking the U.S. economy with it. Then what happens to all the sunny articles and models? They turn out to be way, way wrong.
ourbrooks
Posts: 1575
Joined: Fri Nov 13, 2009 3:56 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by ourbrooks »

GregLee wrote:
dbr wrote:Computers or no, there isn't an adequate description of how investments evolve to permit the estimate you want to make.
I don't see the problem. How much longer you can expect to live is obviously very important in estimating, year by year, how much you must leave in your portfolio to fund the remainder of your retirement. And the life expectancies of individuals of various ages are known -- they're routinely used in annuity calculations. And how your age differs with time is simple enough to calculate (every year you get a year older). So why not include that in the calculation?
Alas, there's no way to determine the life expectancy of a particular individual in advance. Median male life expectancy for a 65 year old man is 17.19 years so half of all men live longer than 82.19 years. At least a few people live to be 100. Starting at age 65, how many years of retirement income should I plan on, 17.19 or 35? At age 65, you can't tell and most people would not like to plan for the median and find out that they're in perfect health at age 82.19 and broke.

As far as I'm concerned the safe withdrawal rate problem is one which doesn't need solving. Starting with Robert Merton and including Zvi Brodie and Willam Bernstein, there's a school of researchers in financial planning who argue that you should cover your basic needs with steady income streams, such as pensions, Social Security, and annuities, so that you don't have to worry about safe withdrawal rates. What's left can be used for optional expenditures; if you guess wrong on the safe rate, well, you don't do the round the world cruise first class.
User avatar
wade
Posts: 612
Joined: Fri Sep 17, 2010 12:38 am
Location: Main Line
Contact:

Re: Interesting Chart on 4% rule-->Why worry?

Post by wade »

floatingdoc, Thanks for starting the discussion.

Nisiprius, I like your potato chip analogy.

About the 1.8% withdrawal rate prediction. I've backed off on that one now. The problems with those regressions is that for recent years they require making estimates outside the range of historical experience, and in this case I think the dividend yield variable may have been causing some problems to make the estimates too low.

These days I prefer using Monte Carlo simulations calibrated to current market conditions rather than historical averages. This approach tends not to treat 4% well, but outcomes are not nearly as bad as 1.8%.

But more generally, actually I'm trying to write up a short book on retirement income strategies now. That explains the odd table numbers in that blog entry. I'm taking a step back and filling in holes for looking at different aspects of the historical data, but this doesn't really reflect where my views are now.

I think variable withdrawal strategies responding to market conditions are a better way forward than constant inflation-adjusted withdrawals. GregLee, yes I think withdrawals based on remaining life expectancy are a good idea. And I also think that to get a better idea about what failure means, it is important to look at a retiree's entire balance sheet, including financial, human, and social capital. I also like the flooring idea that ourbrooks mentioned.

My most recent analysis about retirement income can be found in this working paper:

" Choosing a Retirement Income Strategy: A New Evaluation Framework.”
http://ideas.repec.org/p/pra/mprapa/39169.html

Here's the abstract and note that there is no mention of failure rates as an evaluation criterion:

This article presents the initial stages of a new evaluation framework for choosing among retirement income strategies. The investigation includes eight retirement income strategies: constant inflation-adjusted withdrawal amounts, a constant withdrawal percentage of remaining assets, a withdrawal percentage based on remaining life expectancy, a more aggressive hybrid withdrawal percentage, inflation-adjusted and fixed single premium immediate annuities, a variable annuity with a guaranteed living withdrawal benefit rider, and a strategy which annuitizes the flooring level to meet basic needs and uses the hybrid withdrawal percentage for remaining assets. These eight strategies will be analyzed with six retirement outcome measures over a 30-year retirement period: the average amount whereby spending falls below the minimally acceptable level, the average spending amount, the remaining bequest at the end of the retirement period, the minimum spending amount for any year in the retirement period, a measure of whether spending increases or decreases over time defined as spending in the first year divided by spending in the 30th year, and the value of total spending after accounting for diminishing returns from increased spending for a client with somewhat inflexible spending needs. The model is applied to three client scenarios representing a cross-section of RIIA’s client segmentation matrix. It is built using Monte Carlo simulations which reflect current market conditions, so that systematic withdrawals and guaranteed products share compatible underlying assumptions.
User avatar
nisiprius
Advisory Board
Posts: 52211
Joined: Thu Jul 26, 2007 9:33 am
Location: The terrestrial, globular, planetary hunk of matter, flattened at the poles, is my abode.--O. Henry

Re: Interesting Chart on 4% rule-->Why worry?

Post by nisiprius »

wade wrote:Nisiprius, I like your potato chip analogy.
Thanks for reading my post, despite its general nihilism.

I feel people are doing way too much research on retirement income and not nearly enough on retirement expenses. Particularly, variability of retirement expense. Skewness of retirement expenses. Fat tails of retirement expenses. Simulations that include Monte Carlo simulations of expenses as well as income.

As I face my own retirement (in mid-sixties, semiretired, living off a mix of Social Security and part-time income, retirement savings untapped), I feel that I know as much about SWR as I need to know. Really, the Trinity study is good enough: 4%-initial-than-COLAed, knock it down, and take it seriously when they say "The word planning is emphasized because of the great uncertainties in the stock and bond markets. Mid-course corrections likely will be required, with the actual dollar amounts withdrawn adjusted downward or upward relative to the plan."

There's no point in refining that because the things I really want and need to know about are all on the expense side, and they are far more uncertain than the income side.

It is hard to tell whether things are really any more uncertain at age 65 than at age 40. It certainly feels as if they are. Income seems to become inflexible: the phrase "living on a fixed income" captures some of the feeling. (I don't know how much control of one's career one ever has. People who get laid off in their late fifties after thirty years at one company usually do not usually have the Mr. Micawber certainty that "something will turn up." Yet three years later one usually finds these people earning again, often at something surprising--although that may be because the ones who don't end up on the list of "people I've lost touch with and don't know what has happened to.")

Anyway, the elephant in the room is health. Health and mortality. Uncertainties, not averages. Unexpected health problems can and do occur at any age. (Multiple sclerosis.) Nevertheless, I feel intuitively that general shape of the mortality curve also reflects the shape of the health curve. What I'd really like to see is a chart of the standard deviation of health related costs per year as a function of age. I bet a nickel it has the same shape. And I bet a nickel the curve for mean and standard deviation of out-of-pocket costs after insurance does, too. To my mind, things like home remodeling or a move necessitated by inability to climb stairs would be an example of a "health related cost."

Mortality curve, as percent probability per year. I don't know whether to show the linear scale or the log scale. I find them both hard to get my head around. My point isn't mortality; my point is, imagine what it would mean if we had an "uncertainty of health-related expenses" curve and it turned out to be generally similar:

Image
Image

Anyway, Wade, I suspect this isn't an area that interests you, but it seems to me that the real need is not greater precision on the income side, but a better understanding of the expense side. Rick Ferri once made a throwaway remark that one could plan a bit more optimistically because expenses tend to decline with age. I assume he was thinking of "Pack your bags, Mama, we're going to take that cruise!"-type-expenses. The thread that followed didn't really go anywhere because basically nobody had any real data.
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.
User avatar
wade
Posts: 612
Joined: Fri Sep 17, 2010 12:38 am
Location: Main Line
Contact:

Re: Interesting Chart on 4% rule-->Why worry?

Post by wade »

Nisiprius: Focusing on expenses is a good idea. A few people have looked at it, but in the financial planning world they have mostly been looking at the Consumer Expenditure Surveys, which look at cross sections of different people over time, rather than following the same individuals over time. These studies tend to show that expenses decrease with age and that this is voluntary, but they don't really properly incorporate the notion that health care expenditures increase much more rapidly with age. Also these studies look only at average spending, which masks all of the potential variability between households in the population. I did write a column about this a few months ago, and concluded that though expenses do probably decrease with age, when you factor in health on top of that, the constant inflation-adjusted withdrawal amounts may not be too bad of a baseline after all. But more research is still needed on this. I've been trying to entice a Ph.D. student to dig into some surveys that follow the same households over time, but I haven't had any luck yet.

Health expenses do definitely increase with age as you suggested.
john94549
Posts: 4638
Joined: Tue Jul 26, 2011 8:50 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by john94549 »

My Mom is 97. A couple of years back, she experienced a medical condition which required either (a) a move to a nursing home, or (b) in-home caregivers. She chose (b). In the space of just a few months, she went from spending virtually nothing on health care above-and-beyond Part B, Medigap insurance and modest co-pays, to roughly 40% of her disposable income on health care.
User avatar
GregLee
Posts: 1748
Joined: Wed Oct 27, 2010 3:54 pm
Location: Waimanalo, HI

Re: Interesting Chart on 4% rule-->Why worry?

Post by GregLee »

nisiprius wrote:Anyway, Wade, I suspect this isn't an area that interests you, but it seems to me that the real need is not greater precision on the income side, but a better understanding of the expense side.
There has seemed to be little contact here between discussions and worries about (1) running out of money in retirement for ordinary living expenses, and (2) not having enough to pay for medical expenses during old age. It's as if the two didn't have anything to do with one another. However, now that I'm getting pretty old, (2) has come to dominate my own thinking about planning finances during retirement.

Fortunately, there isn't a lot to understand about expenses, for an individual. There's no limit. That makes strategy easy: pile up as much money as you can, rely on Medicaid as a backup, and cross your fingers. Oh yeah, and keep up the exercise.
Greg, retired 8/10.
User avatar
englishgirl
Posts: 2508
Joined: Thu Mar 01, 2007 4:34 pm
Location: FL

Re: Interesting Chart on 4% rule-->Why worry?

Post by englishgirl »

nisiprius wrote: They are trying to tell you how far you can safely bend a potato chip.
I think I love you, nisiprius. ;)

Well, you make me smile, anyway.
Sarah
richard
Posts: 7961
Joined: Tue Feb 20, 2007 2:38 pm
Contact:

Re: Interesting Chart on 4% rule-->Why worry?

Post by richard »

nisiprius wrote:The whole of human experience is that rational, scientific efforts to estimate the probability of low-probability events consistently underestimate them. Not just by a little, but by many many orders of magnitude. Before the events at Three Mile Island, the Rasmussen report had estimated that events of that severity ought to occur no more often than once in 27,000 years. The failure of LTCM was a ten-sigma event, an event whose probability of occurring should have been 0.00000000000000000000076% and ought to have occurred once in 7e24 years, or 9 billion times the age of the universe. Did LTCM really hit a one-in-7,000,000,000,000,000,000,000,000 jackpot, or were their Monte Carlo simulations off by a factor of a sextillion or so?
There's a tendency of people to worry too much about events with very low probabilities high visibility events. For example, people worry more about plane crashes than car crashes, despite cars killing many many more, or they worry about nuclear accidents, even though pollution from coal kills many more than nuclear power. In these cases (or at least three of four cases), there are reliable statistics.

Why people continue to analyze market based on normal distributions is a continuing mystery. My guess is that the math is easier.
richard
Posts: 7961
Joined: Tue Feb 20, 2007 2:38 pm
Contact:

Re: Interesting Chart on 4% rule-->Why worry?

Post by richard »

GregLee wrote:Studies like this don't tell me what I want to know about spending down my portfolio during my retirement, it seems to me. I'd like to take out each year the maximum that leaves me reasonably safe from not having enough to live on for the remainder of my retirement. Since each year during retirement, my life expectancy changes, the value of my remaining portfolio changes, prevailing interest rates change, and probably other factors that don't occur to me right now, but which could be estimated in advance, that maximum safe amount is going to vary in a rather complicated way from year to year. But we have computers now that should let us cope with the complications. Why can't studies of safe withdrawals be more realistic? Why stick with a 30 year retirement period? That's not what we're interested in.
We don't know what investments will return in the future. Without this information, these studies are not very useful, no matter how much computing power we devote to the task or how precisely we can estimate life expectancy, etc.
User avatar
nisiprius
Advisory Board
Posts: 52211
Joined: Thu Jul 26, 2007 9:33 am
Location: The terrestrial, globular, planetary hunk of matter, flattened at the poles, is my abode.--O. Henry

Re: Interesting Chart on 4% rule-->Why worry?

Post by nisiprius »

wade wrote:Health expenses do definitely increase with age as you suggested.
And do remember, I'm not talking about mean health expenses. I'm talking about uncertainty, variability, standard deviation of health expenses and health-related expenses. I happen to think insurance--public and private--is an important tool for coping with this, but it is a highly problematical and imperfect tool.

Speaking of health-related expenses. It is not uncommon for elderly people to go through a phase when their cognitive impairment takes the form of low sales resistance. To the distress of their adult children, they become easy game for every cable TV ad, mail-order offer, and charitable solicitation that reaches them. The financial damage can range anywhere from $10 donation to a phony charity, to hundreds of dollars for useless insurance recommended by the nice man on TV, to being scammed out of their life savings by a "bank official" who needs them to take a wad of cash out of the bank to help them catch an embezzler.

I believe the flow of money from elderly to scam artists is a meaningful element of the national economy. All these silly offers, the URGENT! MAIL-O-GRAM ABOUT YOUR BENEFITS in the buff envelope with U.S. flags, the stuff where you say "who could possibly fall for that?" The answer is "you, maybe, at age 87." It's hard for younger relatives to provide protection. It's hard enough to take away the keys to the car, but it's harder to take away the keys to the checkbook. And the loss of judgement is a very slow, gradual process without clear lines of demarcation. The legal system is not going to declare someone incompetent to manage their own affairs just because they joined a negative-option book club, not even when "it's just not like Granny to do that." Besides, Granny may well feel it's her money and if she likes to get books she never reads, just whose darn business is it, anyway? Like you've never bought a book and not read it?

So, I would go so far as to just as there are "senior moments" and normal memory loss, there is also a certain amount of money loss due to normal victimization. In my retirement planning, how much should I allow for that?
Last edited by nisiprius on Mon Jun 18, 2012 10:30 am, edited 2 times in total.
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.
heyyou
Posts: 4461
Joined: Tue Feb 20, 2007 3:58 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by heyyou »

Richard and Greg Lee typed faster I did.

People are still looking for certainty in an uncertain world. Sarcasm alert-> Let's ask the experts, they have computers. With computers, maybe they can foretell the future. Yes, they said they could, but they just need to get their program perfected.

The ancient Greeks went to oracles asking about the future. Technology has improved, but people haven't changed much, have they?

Step back from the question and look at what is being asked. The question is "How will the markets perform for the next 30 years?" Since no one knows about next week's performance, 30 years is quite a stretch of time to be asking for specifics about performance.

Did anyone plan their spending from age 30 to age 60 when they were in their twenties? Yes, you invested in education but that was not estimating your expenditures for your 59th year.

Save a considerable amount of money or its pension equivalents. Note that 25 multiples of today's expenses is only 5 multiples less than the 30 year period that is often discussed. Be grateful for what you have and continue to live within your means in retirement, which may include needing to adapt your spending to your income. It is that simple, but there is no certainty, no guarantee.

Retirement planning is valid. Wanting to live so well in retirement that you spend your last dollar on the last day of your life is just being greedy.
User avatar
nisiprius
Advisory Board
Posts: 52211
Joined: Thu Jul 26, 2007 9:33 am
Location: The terrestrial, globular, planetary hunk of matter, flattened at the poles, is my abode.--O. Henry

Re: Interesting Chart on 4% rule-->Why worry?

Post by nisiprius »

englishgirl wrote:
nisiprius wrote: They are trying to tell you how far you can safely bend a potato chip.
I think I love you, nisiprius. ;) Well, you make me smile, anyway.
Thank you, thank you. But I have the terrible feeling it isn't original. Ah, that word, cryptomnesia. Yes, Google suggests I'm not the first person in cyberspace ever to say that. And, in turn, that has caused some synapses to fire... yeah, I think it might be a fairly early Peanuts cartoon. Assuming Charles M. Schulz himself didn't borrow it from someone. Yeah, it's coming back. The first few panels are something like [Snap!] "Rats." [Snap!] "Rats." and then Linus or someone says to Charlie Brown, "No matter how hard you try, you can't bend a potato chip."

Oh, MAN. So I can't actually find the Peanuts cartoon in Google or Google Books. I do find one hit attributing the phrase to "Charles Schultz"[sic], and ain't I proud of spelling his name correctly... so it's probably is him. But when I try a Google Images search on "bend a potato chip," in hopes of retrieving the actual panels, and what do I find? The mortality charts I just posted!
Image
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.
3247
Posts: 51
Joined: Sat Feb 11, 2012 2:34 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by 3247 »

After reading this entire thread (and the related articles) I am now more convinced than ever that when it comes to retirement, there are no answers, there are only questions.

I am of the belief that this is because there is no singular 'retiree' but an entire cohort of retirees, (or soon to be retirees) none of which is like the other. Full disclosure, I am 70, retired for 10 years and no single WR would have worked for me during these past 10 years. So far this year, I am at 2% after fees...last year it was 5% because life just happens and you have little control over it.

In my humble opinion, life happens differently every year and those who are living must make adjustments to these life events every year.
User avatar
Phineas J. Whoopee
Posts: 9675
Joined: Sun Dec 18, 2011 5:18 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by Phineas J. Whoopee »

nisiprius wrote:
The other thing they have in common is that they all say your portfolio is safe if you are "flexible," i.e. prepared to cut back when you notice that your portfolio is shrinking. Well, duh. That's the common-sense approach Taylor Larimore advocates. Adjust your spending to your best estimate of what you can afford. It's how you regulate spending in your preretirement life--you don't do Monte Carlo simulations on personal income trajectories, you spend what you can afford. Taylor tells us that "This is what most people do and it works." Since Mr. Larimore is, in fact, retired, I give his opinions some credence.
I believe this is a very important point, and it has changed my thinking about early retirement. What I take away is I cannot, as I had once hoped, retire when my portfolio will support my minimal needs, using my current frugal expenditure level as a guide (and taking Social Security into account). In order to maintain the flexibility to cut back I must do at least one of three things:
  • Plan to retire on considerably more income than I need to support my present lifestyle;
    Plan to retire using a very low initial withdrawal rate (perhaps 2.5 percent); and / or
    Plan to annuitize (with an inflation rider) no later than age 70.
Thanks nisi and Taylor (and all) for the much needed dose of cold reality.

PJW
Jerry_lee
Posts: 915
Joined: Tue Mar 06, 2012 12:55 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by Jerry_lee »

G-Money wrote:Was 4% a SWR in Japan these last 30 years? Seems like a better proxy for future expected returns than using the historical returns from one of the biggest and most prolonged bull runs in world history.
Assuming they believed in broad asset class diversification, I think they would have been OK.

1982-2011
MSCI Japanese Index = +5.7%
FF Japanese Value Index = +13.0%
DFA Japanese Small Value Index = +10.9%
30/30/40 = +10.3%

Interestingly, due to fairly low correlations between market, size, and value dimensions in Japan, the 30/30/40 blend had lower volatility than any of the 3 standalone indexes.

And, of course, this doesn't take into account global diversification (US SV = +14.6%, Int'l SV = +13.8%, etc.)
The most disciplined investor in the world.
Jerry_lee
Posts: 915
Joined: Tue Mar 06, 2012 12:55 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by Jerry_lee »

At least historically, looking at annual periods of 30 years since the Great Depression, 1928 was the most difficult year to retire (based on rate of return for a balanced portfolio). If we look at a hypothetical investor with $1M retiring in 1928 needing 5% per year adjusted for inflation and an asset allocation of 18% S&P 500, 18% US large value, 24% US small value, 40% 5YR Bonds, we see the following outcome:

At year end 1957, the portfolio had grown to $1.35M, and the withdrawal had grown to $82,000 (remember we had deflation during the Great Depression, so withdrawals declined a bit in the first few years), and total withdrawals were almost $1.7M.

For those worried about lower expected future returns (I don't share those concerns), you should take comfort in this example, as equity returns were only 7% to 8% over this period, size and value premiums were paltry, and 5YR bonds only earned 2.8%. Of course, assuming one was able to stay with their portfolio allocation, not chase performance or panic, etc.
The most disciplined investor in the world.
User avatar
wade
Posts: 612
Joined: Fri Sep 17, 2010 12:38 am
Location: Main Line
Contact:

Re: Interesting Chart on 4% rule-->Why worry?

Post by wade »

Nisiprius: These sorts of pithy expressions, even if not completely original, are quite helpful for getting a point across. Just consider "black swan" for one amazing example. I also like Mike Zwecher's point that retirees only get "one whack at the cat" for their retirement.

Interesting all around discussion, even if the mood is now heading in the direction that people will figure out how to live within their means and so I don't need to spend time simulating retirements.

Just FYI, a Japanese person retired from 1981-2010 (I don't have the 2011 data) who invested 40% in Japanese stocks and 60% Japanese bonds could have enjoyed a withdrawal rate of over 8%. The Japanese economy boomed so dramatically in the 1980s.

But even if you start a retirement when the bubble burst, I don't think things are as bad as you might expect.
john94549
Posts: 4638
Joined: Tue Jul 26, 2011 8:50 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by john94549 »

Wade, when we finally ever get around to starting SWR's, they'll probably be in the vicinity of 3.35%, enough to maintain our pre-retirement expenses (plus a little extra to dote on the grand-children). Never was a big fan of the "live on 75%" rule-of-thumb post-retirement. Hard sell to the wife. Thought we'd start SWR'ing at 65, now maybe much later. Wife seems to have decided working is better than retiring. Not me. Retired and loving it. Currently harvesting about $4000/yr from an IRA CD for walking-around money*, the rest is just doing what it does. Age-in-bonds happy camper.

*While the wife is doing the 6% 401K contribution to get her maximum 3% employer match. She (and her employer) pump in $9K/year, I suck out $4K/year. I never said life was fair.
User avatar
baw703916
Posts: 6681
Joined: Sun Apr 01, 2007 1:10 pm
Location: Seattle

Re: Interesting Chart on 4% rule-->Why worry?

Post by baw703916 »

GregLee wrote:
nisiprius wrote:Anyway, Wade, I suspect this isn't an area that interests you, but it seems to me that the real need is not greater precision on the income side, but a better understanding of the expense side.
There has seemed to be little contact here between discussions and worries about (1) running out of money in retirement for ordinary living expenses, and (2) not having enough to pay for medical expenses during old age. It's as if the two didn't have anything to do with one another. However, now that I'm getting pretty old, (2) has come to dominate my own thinking about planning finances during retirement.

Fortunately, there isn't a lot to understand about expenses, for an individual. There's no limit. That makes strategy easy: pile up as much money as you can, rely on Medicaid as a backup, and cross your fingers. Oh yeah, and keep up the exercise.
So shouldn't maximizing net worth be everyone's financial goal? That's always been mine, but I seem to be the minority on this board.
Most of my posts assume no behavioral errors.
john94549
Posts: 4638
Joined: Tue Jul 26, 2011 8:50 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by john94549 »

baw703916 wrote:
So shouldn't maximizing net worth be everyone's financial goal?
Once you get to a certain point (and only you can determine what that "point" is), it's just a matter of keeping score. Not being flippant, but the marginal utility of extra wealth diminishes at a certain level. I would suspect the "tipping point" is when one decides to engage in philanthropic bequests. If one is wealthy enough to bypass heirs, and self, then one has maximized his or her "net worth" and the next goal is to enhance societal wealth. Buffett, Gates, Carnegie, Rockefeller, Eli Broad, Ewing Kaufmann, many names come to mind.
User avatar
GregLee
Posts: 1748
Joined: Wed Oct 27, 2010 3:54 pm
Location: Waimanalo, HI

Re: Interesting Chart on 4% rule-->Why worry?

Post by GregLee »

baw703916 wrote:So shouldn't maximizing net worth be everyone's financial goal? That's always been mine, but I seem to be the minority on this board.
I guess so, but there's an argument that if you can set a maximum to what you will need, then you can reduce your risk to just the amount required to achieve that maximum amount. This gives a rationale for a conservative investing strategy, when you're rich enough, which avoids risks which you are convinced are unnecessary. But that reasoning only works (even if you agree with it) if there is actually a maximum to what you will need. What I'm saying here: there is no such maximum. Well, I suppose if you had really lots and lots of money, you might be confident that you could meet any health care expenses, however large, but that would be ... lots.

I know that some think that they can take care of this risk with long term care insurance. I don't think so, but we've discussed that to death (so to speak) in several recent threads, so let me suggest that if anyone wants to pursue that thought, he might start a separate thread.
Greg, retired 8/10.
WhiskeyJ
Posts: 128
Joined: Sun Apr 24, 2011 10:27 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by WhiskeyJ »

I work at a retirement community. Most of our residents are in independent living but we have assisted living, and long term care. I'm surprised how many (70%+) seem to never need the higher care. I have noticed a large negative correlation to health care spending and quality of life. Residents who have no additional care needs seem to be quite happy, social, active, etc. Residents in assisted living are pretty happy because of the socialization and structured activities (5k per month). Long term care and memory care residents have a lower quality of life but still get opportunities for structured activities and socialization (7k per month).

The lowest quality of life seems to be the very wealthy whose kids choose 24 private pay home care ($15k per month). They become isolated, don't fit into the community, hide out in their apartments, and because of the lack of socialization tend to decline quicker mentally. Seeing this over the years, I would rather run out of money as health care costs grow and be forced into a higher-care setting (preferably with medicaid, so I don't have to move if I run out of money), than be sitting on $1M in an apartment with random 25 year old aides with whom I have nothing in common. In other words, I'm not going to worry about extreme, late-age health care costs, because that's when running out of money doesn't seem to impact quality of life very much.
dbr
Posts: 46181
Joined: Sun Mar 04, 2007 8:50 am

Re: Interesting Chart on 4% rule-->Why worry?

Post by dbr »

baw703916 wrote:
So shouldn't maximizing net worth be everyone's financial goal? That's always been mine, but I seem to be the minority on this board.
Perhaps so in a world where financial goals are a person's only goals. I suspect most of this board has personal goals of higher importance than mere financial ones.

Probably what you mean is that given certain personal goals, wouldn't it usually be true that maximizing net worth would be the financial strategy that would best serve most typical personal goals, within some constraints?

I suspect that proposition answers itself one way or another once the constraints are made explicit. More likely the result becomes equivalent to the financial goal is to assure enough financial resources to achieve personal non-financial goals.

I can tell you, for example, that if I wanted to maximize net worth, I would still be working today instead of retired, but net worth wasn't the goal and continuing to work in and of itself did not serve the goal so effectively as to continue working. It is also true that many family decisions were made that sacrificed net worth in favor of other goals. I don't for one second question any of those decisions.
User avatar
HomerJ
Posts: 21281
Joined: Fri Jun 06, 2008 12:50 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by HomerJ »

nisiprius wrote:So, I would go so far as to just as there are "senior moments" and normal memory loss, there is also a certain amount of money loss due to normal victimization. In my retirement planning, how much should I allow for that?
This is why I'm big on SPIAs, to ensure a decent cash flow, no matter how long I live, and no matter how much of my "other" money I give away to scam artists.
YDNAL
Posts: 13774
Joined: Tue Apr 10, 2007 4:04 pm
Location: Biscayne Bay

Re: Interesting Chart on 4% rule-->Why worry?

Post by YDNAL »

.

It is fascinating how people spend energy to discuss retirement in 1937 -> 1967; retirement in 1968 -> 1998. Here are the problems as I see them:
  • The World in 1937, 1968, etc. bear no relationship to 2013, 2044.
  • Whomever is retiring in 2013 needs projections for 2014-2044 (and beyond) that are nothing but figments of their imagination.
Landy | Be yourself, everyone else is already taken -- Oscar Wilde
Jerry_lee
Posts: 915
Joined: Tue Mar 06, 2012 12:55 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by Jerry_lee »

YDNAL wrote:.

It is fascinating how people spend energy to discuss retirement in 1937 -> 1967; retirement in 1968 -> 1998. Here are the problems as I see them:
  • The World in 1937, 1968, etc. bear no relationship to 2013, 2044.
  • Whomever is retiring in 2013 needs projections for 2014-2044 (and beyond) that are nothing but figments of their imagination.
But long periods of historical returns cover common and sure-to-repeat financial outcomes: recessions, depressions, panics, rising interest rates, falling interest rates, pessimism/low equity prices+high expected returns, opptimism/high equity prices+low expected returns, etc.

And therefore we can model/stress test withdrawal stategies over a variety of uncertain outcomes that will almost certainly happen again. Different risks often lead to similar market results ('73-'74 and '08 market losses were almost identical despite very different circumstances, as were the approximate 2yr recoveries).
The most disciplined investor in the world.
YDNAL
Posts: 13774
Joined: Tue Apr 10, 2007 4:04 pm
Location: Biscayne Bay

Re: Interesting Chart on 4% rule-->Why worry?

Post by YDNAL »

Jerry_lee wrote:
YDNAL wrote:.

It is fascinating how people spend energy to discuss retirement in 1937 -> 1967; retirement in 1968 -> 1998. Here are the problems as I see them:
  • The World in 1937, 1968, etc. bear no relationship to 2013, 2044.
  • Whomever is retiring in 2013 needs projections for 2014-2044 (and beyond) that are nothing but figments of their imagination.
But long periods of historical returns cover common and sure-to-repeat financial outcomes: recessions, depressions, panics, rising interest rates, falling interest rates, pessimism/low equity prices+high expected returns, opptimism/high equity prices+low expected returns, etc.

And therefore we can model/stress test withdrawal stategies over a variety of uncertain outcomes that will almost certainly happen again. Different risks often lead to similar market results ('73-'74 and '08 market losses were almost identical despite very different circumstances, as were the approximate 2yr recoveries).
A period of "recession, depression, panic, rising interest rate, falling interest rates, pessimism/low equity prices+high expected returns, optimisim/high equity prices+low expected returns, etc." <> another. The World as we knew is the World as we knew! My signature is very insightful in this regard.

Good luck with the model/stress test.
Landy | Be yourself, everyone else is already taken -- Oscar Wilde
Jerry_lee
Posts: 915
Joined: Tue Mar 06, 2012 12:55 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by Jerry_lee »

Well, if you refuse to study history, you might be onto something.

1) Should the investor in 1937 (who lost -38% of their real wealth that year in stocks) have known that 50-60% real losses were possible? Given that '29-'31 saw a -61% real decline, I'd say so. Different circumstances? Sure, losses in the same ballpark? Yup.
2) Should the investor in 1973 have been surprised by the -53% real loss they'd experience over the next few years? If they never heard of the Great Depression (and losses that were only 8% more), I guess so.
3) Should the investor in 2000 been caught off guard by the -45% real decline that ensued over the next 3 years? Only if they ignored a very similar loss just a few decades earlier
4) Just 5 years removed from 2002, should anyone have been surprised by the -38% real loss in 2008?

Risk is risk. It has different flavors, some you've never tried before or even thought of. But 40% to 60% losses every decade or two (for entirely different reasons every time) is status quo. With a decade or so of income socked away in ST bonds, you should be able to ride out the storm just fine until the sun comes up again.
The most disciplined investor in the world.
YDNAL
Posts: 13774
Joined: Tue Apr 10, 2007 4:04 pm
Location: Biscayne Bay

Re: Interesting Chart on 4% rule-->Why worry?

Post by YDNAL »

Jerry_lee wrote:Well, if you refuse to study history, you might be onto something.

1) Should the investor in 1937 (who lost -38% of their real wealth that year in stocks) have known that 50-60% real losses were possible? Given that '29-'31 saw a -61% real decline, I'd say so. Different circumstances? Sure, losses in the same ballpark? Yup.
2) Should the investor in 1973 have been surprised by the -53% real loss they'd experience over the next few years? If they never heard of the Great Depression (and losses that were only 8% more), I guess so.
3) Should the investor in 2000 been caught off guard by the -45% real decline that ensued over the next 3 years? Only if they ignored a very similar loss just a few decades earlier
4) Just 5 years removed from 2002, should anyone have been surprised by the -38% real loss in 2008?

Risk is risk. It has different flavors, some you've never tried before or even thought of. But 40% to 60% losses every decade or two (for entirely different reasons every time) is status quo. With a decade or so of income socked away in ST bonds, you should be able to ride out the storm just fine until the sun comes up again.
1. This thread has NOTHING to do with developing an asset allocation that is prepared for Stock Market corrections.
floatingdoc (OP) wrote:Here is a very interesting Chart I came across from Wade Pfau on a 50/50 portfolio and many rolling 30 year periods. It shows that only a very few occasions did a UNDER 4% withdrawal become necessary to preserve not only nominal wealth after 30 years but even inflation adjusted wealth after 30 years.
2. The quote you chose to respond has NOTHING to do with studying/knowing Market history. The quote has everything to do with long-term projections in the future for the retiree. It also concludes that these long-term projections are nothing but a figment of the imagination of those making the projections - historical perspective notwithstanding.
Jerry_lee wrote:
YDNAL wrote:It is fascinating how people spend energy to discuss retirement in 1937 -> 1967; retirement in 1968 -> 1998. Here are the problems as I see them:
• The World in 1937, 1968, etc. bear no relationship to 2013, 2044.
• Whomever is retiring in 2013 needs projections for 2014-2044 (and beyond) that are nothing but figments of their imagination.
But long periods of historical returns cover common and sure-to-repeat....
Landy | Be yourself, everyone else is already taken -- Oscar Wilde
YDNAL
Posts: 13774
Joined: Tue Apr 10, 2007 4:04 pm
Location: Biscayne Bay

Re: Interesting Chart on 4% rule-->Why worry?

Post by YDNAL »

jenny345 wrote:
Jerry_lee wrote:Well, if you refuse to study history, you might be onto something.
+1. It isn't that hard to set up a spreadsheet and model average and extreme financial scenarios, including deflation, much higher inflation and more boom and bust stock and housing markets.

Thanks to TV, you can even watch the prepper show and know how to plan for a total apocalypse. :)
None of this, Jenny, means anything for 2013-2043. The day a model-based future is developed based on *future* reality, the developer wouldn't have time posting in Bogleland and instead be jet-setting the World in search of adventure. :)
Landy | Be yourself, everyone else is already taken -- Oscar Wilde
Jerry_lee
Posts: 915
Joined: Tue Mar 06, 2012 12:55 pm

Re: Interesting Chart on 4% rule-->Why worry?

Post by Jerry_lee »

YDNAL wrote:
jenny345 wrote:
Jerry_lee wrote:Well, if you refuse to study history, you might be onto something.
+1. It isn't that hard to set up a spreadsheet and model average and extreme financial scenarios, including deflation, much higher inflation and more boom and bust stock and housing markets.

Thanks to TV, you can even watch the prepper show and know how to plan for a total apocalypse. :)
None of this, Jenny, means anything for 2013-2043. The day a model-based future is developed based on *future* reality, the developer wouldn't have time posting in Bogleland and instead be jet-setting the World in search of adventure. :)
No one is saying the future will mirror the past. We are saying the past is a useful guide in modeling the behavior of market oriented portfolios of stocks and bonds under different conditions of uncertainty. The causes of future uncertainty are always different from past episodes, but markets tend to respond predictably: fall hard and fast before anyone knew what hit them, and then recover just as we think we are starring into the abyss.

I may have totally misunderstood your point, and if so, I guess I am basically talking with myself.
The most disciplined investor in the world.
Post Reply