Allan Roth's 5% income strategy

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Rick Ferri
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Allan Roth's 5% income strategy

Post by Rick Ferri »

Leave it to Allan Roth to come up with a new way to get 5% income from your retirement portfolio:

How to build a better 5 percent income fund

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Re: Allan Roth's 5% income strategy

Post by RadAudit »

Thanks for the link.

I'm sure Mr. Roth is correct in his approach.

But, really, I've just spent all weekend getting as close to a three fund portfolio as I can get and planning for a SWR of 3% IAW some of Wade's recent articles - I think I'll pass on this opportunity and see if current conventional wisdom will work out OK in the end.
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Re: Allan Roth's 5% income strategy

Post by Browser »

This sounds completely nuts.
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Re: Allan Roth's 5% income strategy

Post by ResNullius »

Rick Ferri wrote:Leave it to Allan Roth to come up with a new way to get 5% income from your retirement portfolio:

How to build a better 5 percent income fund

Rick Ferri
Ok, Rick. Tell us what you think about this. Just curious and, since you posted it, I just thought I would ask. Thanks.
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Re: Allan Roth's 5% income strategy

Post by mlewis »

Is he merely trying to steer people away from dividend funds or is this an actual long term plan? Is he trying to suggest that people should base a long term strategy after using 1 year of dividend and buyback data? I suspect that most bogleheads will know that a 100% stock portfolio (of only US stocks?), withdrawing 5% a year, may not be a safe long-term strategy, especially if you want those withdrawals to keep up with inflation. I don't know if this is true for everybody reading CBS Moneywatch. I'm a little disappointed in this piece.

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Re: Allan Roth's 5% income strategy

Post by Allan Roth »

Browser wrote:This sounds completely nuts.
Why? Details please.
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Re: Allan Roth's 5% income strategy

Post by Rick Ferri »

ResNullius wrote:
Rick Ferri wrote:Leave it to Allan Roth to come up with a new way to get 5% income from your retirement portfolio:

How to build a better 5 percent income fund

Rick Ferri
Ok, Rick. Tell us what you think about this. Just curious and, since you posted it, I just thought I would ask. Thanks.
I beleive that value stock investors are seeking a total return, not a dividend return or a capital gain return. For a retireee investing in value stocks for income, it doesn't matter were the 5% comes from in the long-term as long as you get it. There is no lunch from high dividend paying stocks over any other value stock strategy, athough as Allan pointed out, it is more tax efficient to take it from capital gains.

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Re: Allan Roth's 5% income strategy

Post by mlewis »

Allan Roth wrote:
Browser wrote:This sounds completely nuts.
Why? Details please.
What happens if you have a long bear market, do you still withdraw the same amount, and keep up with inflation? Are you suggesting a portfolio with zero bonds for a person in retirement? Do you plan on diversifying beyond the US stock market?

It has been well documented that these high withdrawal rates can sink a portfolio in short order if a long bear market ensues. I thought lots of advisors worked off an assumption of 4%, and in the current environment I thought even that was too high. As another poster has noted, see Wade Pfau and others. This seems less of a strategy and more of a recounting of what happened during a single year in the stock market.
Is this a rate you use with your clients? And if so, is this what their portfolios look like? Do you maintain their income stream when the markets decline? And how has it worked for the client that retired in 2000?
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Re: Allan Roth's 5% income strategy

Post by mlewis »

Rick Ferri wrote: There is no lunch from high dividend paying stocks over any other value stock strategy, athough as Allan pointed out, it is more tax efficient to take it from capital gains.

Rick Ferri
That may be so, but that doesn't mean that a 5% withdrawal rate will be sustainable over a long retirement.
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Re: Allan Roth's 5% income strategy

Post by ObliviousInvestor »

mlewis wrote:Is he merely trying to steer people away from dividend funds or is this an actual long term plan?
I could be wrong, but I think it's the first.

When I read the article, I thought the message was that high cost dividend funds are undesirable because:
1) They're more expensive than total market funds,
2) They're less diversified, and
3) When it comes to stock returns, there's nothing special about dividends (aside from their tax-inefficiency relative to capital gains).
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Re: Allan Roth's 5% income strategy

Post by Rick Ferri »

mlewis wrote:
Rick Ferri wrote: There is no lunch from high dividend paying stocks over any other value stock strategy, athough as Allan pointed out, it is more tax efficient to take it from capital gains.

Rick Ferri
That may be so, but that doesn't mean that a 5% withdrawal rate will be sustainable over a long retirement.
Nor is there anything sustainable about relying on dividends from companies that don't grow. It's a two way street.

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Re: Allan Roth's 5% income strategy

Post by Allan Roth »

mlewis wrote: That may be so, but that doesn't mean that a 5% withdrawal rate will be sustainable over a long retirement.
There is nothing in the article implying that the 5.08% is a safe withdrawal rate or even that it will increase with inflation. In fact, in 2009, companies drastically cut stock buy backs and the yield was only a bit over dividends.

I"m merely saying that stock buybacks matter and this"build your own income fund" is superior to buying stock more expensive, less diversified, dividend funds.
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Re: Allan Roth's 5% income strategy

Post by garlandwhizzer »

I agree with Allan Roth and Rick Ferri. There is nothing magical about dividends and their recent popularity has stretched valuations of high dividend stocks in the wrong way. Total return is where the focus should be, which is certainly more tax efficient.

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Re: Allan Roth's 5% income strategy

Post by FrugalInvestor »

Allan Roth wrote:
mlewis wrote: That may be so, but that doesn't mean that a 5% withdrawal rate will be sustainable over a long retirement.
There is nothing in the article implying that the 5.08% is a safe withdrawal rate or even that it will increase with inflation. In fact, in 2009, companies drastically cut stock buy backs and the yield was only a bit over dividends.

I"m merely saying that stock buybacks matter and this"build your own income fund" is superior to buying stock more expensive, less diversified, dividend funds.
I think you should have made that statement in your article. Those who may be less skeptical and knowledgeable than most on this forum could easily interpret you to be saying that this is a superior strategy to having a well diversified portfolio and making more conservative withdrawals.
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Re: Allan Roth's 5% income strategy

Post by mlewis »

FrugalInvestor wrote:
Allan Roth wrote:
mlewis wrote: That may be so, but that doesn't mean that a 5% withdrawal rate will be sustainable over a long retirement.
There is nothing in the article implying that the 5.08% is a safe withdrawal rate or even that it will increase with inflation. In fact, in 2009, companies drastically cut stock buy backs and the yield was only a bit over dividends.

I"m merely saying that stock buybacks matter and this"build your own income fund" is superior to buying stock more expensive, less diversified, dividend funds.
I think you should have made that statement in your article. Those who may be less skeptical and knowledgeable than most on this forum could easily interpret you to be saying that this is a superior strategy to having a well diversified portfolio and making more conservative withdrawals.
+1

I think the title of the piece will imply it to many people.
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Re: Allan Roth's 5% income strategy

Post by Browser »

Maybe I'm missing something, but this "strategy" seems to boil down to liquidating a certain percentage of your equity holdings for income according to an arbitrary rule based on share buybacks. What is unique about that?
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Re: Allan Roth's 5% income strategy

Post by Allan Roth »

FrugalInvestor wrote:
I think you should have made that statement in your article. Those who may be less skeptical and knowledgeable than most on this forum could easily interpret you to be saying that this is a superior strategy to having a well diversified portfolio and making more conservative withdrawals.
Okay - I could go on and on about what this strategy isn't. It isn't a safe withdrawal rate, it isn't a replacement for bonds and CDs, it isn't a sure thing that the cash flow will always increase, and it isn't a free lunch. It is merely a better income strategy than buying a more expensive, less diversified, less tax-efficient dividend fund. It merely takes into account that stock buybacks are a more efficient way to return cash to shareholders than paying dividends.

If I figure out how to get a 5.08% safe payout rate, increasing with inflation, I'll take this product to market. As you know, anything that sounds too good to be true, usually is.
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Re: Allan Roth's 5% income strategy

Post by Allan Roth »

Browser wrote:Maybe I'm missing something, but this "strategy" seems to boil down to liquidating a certain percentage of your equity holdings for income according to an arbitrary rule based on share buybacks. What is unique about that?
It's not arbitrary. It's based on the total amount of cash companies decide to return to shareholders and taking your pro-rata share. One can apply this simplified example to the entire stock market:

But there is a second way Cashgen can return the $3,000. It can purchase 300 shares, which represents 3 percent of its outstanding shares, leaving 9,700 shares still trading. You could sell three shares of your stock to Cashgen or anyone else and receive the $30 proceeds. Since the cost of your shares is $10 each, you owe nothing in taxes. After your sale of three shares, you are left with 97 shares of the company that now has 9,700 shares outstanding. This leaves you with the same 1 percent ownership of Cashgen (97/9,700). You merely saved a tax bill on receiving the $30.
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Re: Allan Roth's 5% income strategy

Post by kenyan »

Quick editing note - article states:

"Instead of buying a less diversified and expensive dividend fund, just buy a total stock index fund like the Vanguard Total Stock Index Fund (VTI)."

I think you mean to say a less diversified and more expensive dividend fund.
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Re: Allan Roth's 5% income strategy

Post by BudgetForWealth »

Thanks for writing this article Allan. I'm about to dive into taxable investing (have maxed out tax-advantaged accounts already) and was debating whether or not to pursue a dividend strategy for financial independence related income. I guess what this means for me is that taxable and tax-advantaged accounts should still be considered as one pot for investing purposes.
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Re: Allan Roth's 5% income strategy

Post by Allan Roth »

kenyan wrote:
I think you mean to say a less diversified and more expensive dividend fund.
Thanks - corrected now.
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Re: Allan Roth's 5% income strategy

Post by YDNAL »

Rick Ferri wrote:Leave it to Allan Roth to come up with a new way to get 5% income from your retirement portfolio:

How to build a better 5 percent income fund

Rick Ferri
Lets see:
Allan Roth wrote:OK, let's get away from theory land and implement this tax-efficient income plan. As it happens, U.S. companies paid a dividend of about 2 percent last year and, according to Standard & Poor's, bought back their own shares at an annual rate of 3.08 percent of their outstanding shares. That's a total distribution of 5.08 percent.

Instead of buying a less diversified and expensive dividend fund, just buy a total stock index fund like the Vanguard Total Stock Index Fund (VTI). Collect the 2 percent dividend and then, once a year, sell the percentage of shares American companies repurchased, which amounted to 3.08 percent in 2012. In this way you'll own about the same percentage of American companies at the end of the period as you did in the beginning, and will only have to pay taxes on the gain from the sale, rather than the whole sale.
So, we withdraw (or "collect") 2% dividend and sell shares equal to repurchased sales by American companies - which happened to be 3.08% in 2012.

Conversely, if American companies decide to pay a 2% dividend and collect 3.08% Cash by issuing additional shares in 2013, are we supposed to buy 1.08% more shares?

Sorry, Mr. Roth, I don't get it because this appears to be just busy work.
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Re: Allan Roth's 5% income strategy

Post by Browser »

Sorry, Mr. Roth, I don't get it because this appears to be just busy work.
Nothing more than mental accounting that I can see.
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Re: Allan Roth's 5% income strategy

Post by mlewis »

Allan Roth wrote:
Browser wrote:Maybe I'm missing something, but this "strategy" seems to boil down to liquidating a certain percentage of your equity holdings for income according to an arbitrary rule based on share buybacks. What is unique about that?
It's not arbitrary. It's based on the total amount of cash companies decide to return to shareholders and taking your pro-rata share. One can apply this simplified example to the entire stock market:
It is arbitrary if the article suggests it to be any type of long term strategy, and arbitrary if you base it off of 1 year of data. I'm not saying that you are recommending this as a long term plan, but I do think your article suggests that, in a way. I think it is misleading.
If your main point is to think about total return, think about the tax efficiency of your income strategy, and that a broad market index fund is better than just a high dividend fund, then great.
IMO the article suggests that you can withdraw 5% from your portfolio. Not a good idea. It is fodder for people whose portfolios do not match their needs, and are looking for somebody to reinforce their hopes that a 5% withdrawal is realistic.

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Re: Allan Roth's 5% income strategy

Post by Grt2bOutdoors »

Allan Roth wrote:
FrugalInvestor wrote:
I think you should have made that statement in your article. Those who may be less skeptical and knowledgeable than most on this forum could easily interpret you to be saying that this is a superior strategy to having a well diversified portfolio and making more conservative withdrawals.
Okay - I could go on and on about what this strategy isn't. It isn't a safe withdrawal rate, it isn't a replacement for bonds and CDs, it isn't a sure thing that the cash flow will always increase, and it isn't a free lunch. It is merely a better income strategy than buying a more expensive, less diversified, less tax-efficient dividend fund. It merely takes into account that stock buybacks are a more efficient way to return cash to shareholders than paying dividends.

If I figure out how to get a 5.08% safe payout rate, increasing with inflation, I'll take this product to market. As you know, anything that sounds too good to be true, usually is.
Allan - how are stock buybacks a more efficient manner? I guess you are assuming that it's efficient because taxable investors may be subject to taxation, however it's not efficient when the corporate managers are poor stewards of cash management and investing nor when many investors are tax deferred (pension plans, IRA, 401k, etc.) or tax free institutions ("Roth" - no pun intended). Let's take an example of a company which has a track record of purchasing at the "highs" and issuing at the "lows" - who get's harmed by this, the same investor that you purport is benefitting from the same buyback. Issuing at lows results in more equity dilution, buying at the highs results in a sharper reduction of stockholders equity. The correct thing to do is to payout the cash and let the individual investor determine what is the right course of action. A bird in hand beats two in a bush. If the investor prefers non-dividend paying equities, there are many suitable indexes available to them.

Not sure if such a study has been done, but I'm willing to bet that the majority of dividend paying companies which make up the yield of any given index are quite limited in number, just avoid the heavy-payers and reduce your tax bill accordingly. The only difficulty with this approach is your total return will be hampered as well.
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Re: Allan Roth's 5% income strategy

Post by BornInCA »

Isn't this similar to Roth's other post "Build Your Own Annuity", 93% CDs and 7% VTI (or something like that)?
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Re: Allan Roth's 5% income strategy

Post by gasman »

Is there any web site that investors can track companies' net change in shares outsanding?- total buybacks minus new shares issued.
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Re: Allan Roth's 5% income strategy

Post by pkcrafter »

We seem to be rather critical of a simple article, which appears to be correct. Mr. Roth does not say anything about withdrawal rates, safe or otherwise. Buybacks may be good for shareholders, but there is no guarantee. I take a narrow-eyed view of them because sometimes they go to pay stock options for executives, or the money is reinvested unwisely. But wouldn't you know it, Powershares has a Buyback Achievers ETF, PKW. It has a dividend of 1.18% and has done pretty well compared to the Dividend Achievers ETF, PFM, which has a dividend of 2.23%--not much of an achievement! Watch out for comparisons, though, because the Buyback ETF has a market cap of 17B, and the Dividend ETF has a market cap of 60B.

Anyway, I'll go with Show Me The Money. A dividend is a payment to shareholders, a buyback is not, although it may or may not turn into a payment for investors. I don't see much responsibility to shareholders these days.

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Re: Allan Roth's 5% income strategy

Post by grayfox »

Rick Ferri wrote:Leave it to Allan Roth to come up with a new way to get 5% income from your retirement portfolio:

How to build a better 5 percent income fund

Rick Ferri
This sounded nuts to me also at first. But maybe it makes sense.

Obviously you can spend the dividend every year and still own the same number of shares. And the company could have paid out 100% of the earnings as a dividend. So it seems like you should be able to spend the earnings above the dividend.

But like someone mentioned, what happens when they issue new stock, diluting your ownership in the company? You would have to buy some of the new issue, increasing your shares, just to keep the same percent ownership.

Also, where can you find the data on net buybacks? It seems like it's hidden. Vanguard or M* doesn't report it for every mutual fund and ETF.
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Re: Allan Roth's 5% income strategy

Post by Allan Roth »

grayfox wrote:
This sounded nuts to me also at first. But maybe it makes sense.
Thanks for giving it some thought grayfox and pkcrafter. This isn't a easy concept and takes some thought - simple and easy are too different things. It would be big if Wall Street could charge a lot for it. It is, however, based on sound financial theory.

Here is some of the best data on stock buybacks.

http://www.factset.com/websitefiles/PDF ... k_12.20.12
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Re: Allan Roth's and Vanguard Total Stock Market Fund

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Allan wrote:
Instead of buying a less diversified and more expensive dividend fund, just buy a total stock index fund like the Vanguard Total Stock Index Fund (VTI)...
It is hard to go wrong with advice like that. Other experts agree:

American Association of Individual Investors: "It should come as no surprise that behavioral finance research makes a strong case for buying and holding low-cost, broadly diversified index funds."

Bill Bernstein: "If you own VTSMX with a bit of foreign and REIT, mixed with your bonds, you're most of the way there."

Jack Bogle: "The beauty of owning the market is that you eliminate individual stock risk, you eliminate market sector risk, and you eliminate manager risk."

Scott Burns, columnist, author: "The odd are really, really poor than any of us will do better than a low-cost broad index fund."

Andrew Clarke, author: "If your stock portfoliio looks very different from the broad stock market, you're assuming additional risk that may, or may not, pay off."

John Cochrane, President American Finance Association: "The market in aggregate always gets the allocation of capital right."

Jonathan Clements of the Wall Street Journal: "If you want a surefire strategy for outpacing most other U.S. stock investors, simply shovel money into an index fund that tracks a broad U.S. market index such as the Wilshire 5000 or the Russell 3000."

Prof. Eugene Fama: "When I talk with pension fund people, what I start with is the market portfolio. That's always one of the optimal portfolio' one can settle on."

Paul Farrell, CBS: Where does Fama invest his retirement money?" In index funds. Mostly the Wilshire 5000."

Rick Ferri, author: "For 99% of the the investing population, I still recommend total stock and total bond market index funds."

Graham/Zweig, authors: "The single best choice for a lifelong holding is a total stock-market index fund."

Alan Greenspan: "Prices in the marketplace are by definition the right price."

Sheldon Jacobs who wrote the first book on no-load fund investing: "The best index fund for almost everyone is the Total Stock Market Index Fund.--The fund can only go wrong if the market goes down and never comes back again, which is not going to happen."

Lawrence Kudlow, CNBC: "I like the concept of the Wilshire 5000, which essentially gives you a piece of the rock of all actively traded companies."

Prof. Burton Malkiel: "I now believe the best general U.S. index to emulate is the broader Wilshire 5,000 Stock Index--not the S&P 500."

Bill Miller, famed fund manager: "With the market beating 91% of surviving managers since the beginning of 1982, it looks pretty efficient to me."

Motley Fools: "Invest your long-term moolah in index mutual funds that are designed to track the performance of a broad market index."

Pat Regnier, former Morningstar analyst: "We should just forget about choosing fund managers and settle for index funds to mimic the market."

Ron Ross, author: "Giving up the futile pursuit of beating the market is the surest way to increase your investment efficiency and enhance your financial peace of mind."

Paul Sameulson, Nobel Laureate: "The most efficient way to diversify a stock portfolio is with a low-fee index fund. Statistically, a broadly based stock index fund will outperform most actively managed equity portfolios."

Gus Sauter, "I think a very good way to gain exposure to the stock market is through the Total Stock Market Portfolio on the domestic side."

Bill Schultheis, author: The simplest approach to diversifying your stock market investments is to invest in one index fund that represents the entire stock market."

Charles Schwab: "Only about one out of every four equity funds outperforms the stock market. That's why I'm a firm believer in the power of indexing."

Chandan Sengupta, author: "Use a low-cost, broad-based index fund to passively invest in a little bit of a large number of stocks.

Prof. Jeremy Siegel: "For most of us, trying to beat the market leads to disastrous results."

Ben Stein: "Scholarly work by Burton Malkiel, Eugene Fama and others has proved that it is the rare investor indeed who can outperform the overall market."

"Robert Stovall, investment manager: It's just not true that you can't beat the market. Every year about one-third do it. Of course, each year it is a different group."

Larry Swedroe, author: "Over the last 75-years, investors who simply invested passively in the total U.S. stock Market would have doubled their investment approximately every seven years."

Peter D. Teresa, M* Sr. Analyst: My recommendation: a fund that indexes the entire market, such as Vanguard Total Stock Market Index."

Jason Zweig of Money magazine: "I think a total stock market index fund is not only the simplest, but the very best core investment for most people.

Warren Buffett, famed investor: "There seems to be some perverse human characteristic that likes to make easy things difficult."

Sixteen reasons to select Total Market Index Fund:

1. Low expense ratio.
2. Low Turnover (under 4%)
3. More diversification than any other US stock fund.
4. No stock overlap.
5. No manager changes.
6. No style drift.
7. Additions and withdrawals do not unbalance portfolio.
8. No worry--the stock market has always gone up during long periods.
9. Never below market's average performance.
10. Contains every style and cap-size.
11. Never needs rebalancing.
12. Past returns are much above average.
13. Extremely tax-efficient.
14. Turns tax-Inefficient stocks into tax-Efficient stocks leaving more room in tax-advantaged accounts.
15. Total market funds avoid "front running."
16. Simplicity--more free time.

Best wishes.
Taylor
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Re: Allan Roth's 5% income strategy

Post by Random Musings »

IMHO, it's just another way of saying that one should invest in tax-efficient funds - which implies using low-cost index/passive funds.

Because there is no free lunch.

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Re: Allan Roth's 5% income strategy

Post by Allan Roth »

Random Musings wrote:IMHO, it's just another way of saying that one should invest in tax-efficient funds - which implies using low-cost index/passive funds.

Because there is no free lunch.

RM
There is certainly no free lunch (or I wouldn't be working for a living) and of course tax-efficient, along with LOW COST and DIVERSIFIED are key. The sole point of this piece was that this is a better strategy than buying a dividend fund or a portfolio of dividend stocks. The cash being returned to shareholders, which is much higher than that being returned via dividends, is relevant.

I don't understand those that read into me saying this was a safe withdrawal rate - it isn't, nor does it provide eternal life, as much as I wish I found either. :happy
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Re: Allan Roth's 5% income strategy

Post by mlewis »

Allan Roth wrote:
I don't understand those that read into me saying this was a safe withdrawal rate - it isn't, nor does it provide eternal life, as much as I wish I found either. :happy
I don't assume you are saying this is a safe withdrawal rate, and I agree with your main points in the piece. However, based on the title and some of the other wording in the article I think it is reasonable to assume that the takeaway for some people will be that a 5% withdrawal rate is safe. I think it has potential to help lead people down the wrong path, or at least to help endorse their misguided assumptions about how much income their portfolio will give them.

Look at some of your wording:
"implement this tax-efficient income plan"

"Collect the 2 percent dividend and then, once a year, sell the percentage of shares American companies repurchased, which amounted to 3.08 percent in 2012."

In that sentence you make it sound like you are saying to figure out the dividend rate and the repurchase rate each year, add them up, and that is how much income you can keep every year.

"your actual ownership share in American capitalism may decline a bit"

"this income strategy takes in the full 5.08 percent cash returned to shareholders"

"In addition to paying higher income, this strategy has you far more diversified"


Intentionally or not, you are putting forth the idea that people can use this as in income strategy. It's encouragement for the people who are just waiting for somebody to tell them 5% is safe after all.
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Re: Allan Roth's 5% income strategy

Post by kwyjibo »

I thought the article was great, with all the financial media frenzy over "where am I going to find income?" And "buy these dividend stocks for life" sales pitches here is a sane (and I thought pretty funny tongue in cheek) response to it from one of the few Boglehead writers out there. But I may have read too much into it.

But man, if this article upset you then you should search for the one where Mr. Roth compares the Vanguard Total Stock Market Fund with dividends reinvested to the S&P 500 without dividends reinvested.
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