likop wrote:My question to the group is not on withdrawal rate, but rather on my withdrawal approach. Please let me know what you think about the following that I want to start in a couple of years.
1. Keep cash (or equivalent) reserve that is sufficient for 3 years of living expenses. The rest in 70/30 fixed income/equity allocation.
2. I am fairly confident that I should not ever have to liquidate any of the fixed income/equity instruments because of the size of the portfolio (and modest living expenses) and having the cash to ride out three years of downturn.
3. Provide for on-going living expenses via income/dividends from fixed income and equities. Periodically rebalanced to maintain 70/30 ratio.
4. If fixed income and equity income/dividends exceed required living expenses, reinvest the leftover. If fixed income and equity income/dividends are not sufficient to cover living expenses, augment from cash reserve.
5. Refill cash reserve (back to 3-year living expense amount) with fixed income and equity income/dividends when excess is available.
likop,
I posted a discussion of a similar scheme here:
http://www.bogleheads.org/forum/viewtop ... 4#p1577464
Some comments on what you say:
I think you do need to compute a withdrawal rate to estimate the life of your plan. Life = N years = 1/Rate, so, for example 2.5% gives an estimate of 40 years. 5% (20 years) for example might be a concern, depending on your age (or you and a partner's combined life expectancy) and your desire for a legacy.
Conceptually, you are making two buckets.
Bucket A: 3 years of cash and
Bucket B: N-3 years 0f your 70/30 income/equity asset allocation (AA).
You can then calculate an overall AA as 3/N cash, 0.7*(N-3)/N income and 0.3*(N-3)/N equity. How does that feel?
Is this being done with tax advantaged funds or not? Is there any reason to prefer dividends vs. capital gains if you liquidate some assets?
Your 70/30 fixed income/equity allocation sounds conservative to me, particularly if "fixed income" means medium-term bonds. If "fixed income" includes dividend-paying stocks, you are somewhat mixing dissimilar assets.
You are somewhat adopting a strategy of "Income Investing" by relying on dividends and distributions to generate resources for income (withdrawal) or rebalancing. I think current opinion does not advise this because, for example, low interest rates might cause you to move from bonds to dividend-paying stocks, distorting your AA. Some call it "chasing yield".
My opinion is to set an AA and invest it in a tax-efficient manner. If you need to liquidate assets to generate cash, so be it.
So, your "Bucket A" is 3 years cash. Is that enough? What would you do if equities drop by 50% and stay there for 5 years? I am not criticizing your plan, I am asking you to consider scenarios in advance. Then, if they occur, you can say, "I have a plan for that".
"Bucket B" is your 70/30 mix of income/equities.
The bottom line (I think) is to understand what is really going on here. Your Bucket A is a fixed amount of cash. Done. Sort of like an emergency fund.
Let's go two or three years down the road. Well, Bucket A is still 3 years' cash, the same as before. All the net action must therefore be with Bucket B. Bucket B is funding your income, Bucket A is a reserve. So, really: If there is some major market event, are you prepared to leave Bucket B alone and actually deplete Bucket A to zero?
If this were my plan, I would stretch Bucket A to 5 or even 7 years, and would make Bucket B at least 50/50 stocks/bonds. And I would check the withdrawal rate so the expected plan life is at least 30 years.
If any of this looks dicey, there are investment advisers (I am not one) and online tools that will allow you to explore (via Monte Carlo simulation) the interplay of your AA in Bucket B and the expected life (or probability of success) of your plan.
Good luck!
Keith