Please explain a 3% SWR to me

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TheTimeLord
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Please explain a 3% SWR to me

Post by TheTimeLord »

I try and try but I just can't wrap my head around someone needing 33x for a 30 year retirement. It seems if that is true it could only be because of too much risk in the portfolio. I know I am missing something. Help bring me in from the dark.
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steve_14
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Re: Please explain a 3% SWR to me

Post by steve_14 »

You don't for a retirement you're certain will last no longer than 30 years - just use TIPS.
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Re: Please explain a 3% SWR to me

Post by The Wizard »

33x is a conservative goal, for someone who is both risk averse and who desires to annuitize nothing, thus maximizing his expected estate for heirs.
Most of us can do OK with a lesser multiplicative factor..
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kenyan
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Re: Please explain a 3% SWR to me

Post by kenyan »

Inflation adjustment, and uncertainty of duration. If inflation averages 2.5% over the period, by year 28, that 3% withdrawal rate is 6% of the original balance. If inflation averages 3%, then you're withdrawing 6% of the original balance annually by year 24. If you happen to live until year 40, you could be in trouble, especially if you have poor portfolio performance.

In my opinion, I've seen nothing to convince me that 4% SWR is now wrong unless it's for an early retiree, and believe that those trumpeting 2.5-3% SWR are being too conservative. At that level, you're paying too much for what is essentially black swan insurance. I prefer a plan where you can cover the necessities with a conservative SWR/SPIA/pensions/SS, but can feel free to spend above that level when your investments are doing well. Maybe I'll change my tune when I'm getting closer to retirement.
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siamond
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Re: Please explain a 3% SWR to me

Post by siamond »

This (very conservative?) number is more typically mentioned for longer retirement periods (e.g. early retirement around 50 or something like that, hence 40+ years to be planned for).

About your equity-heavy comment, it seems to me this is more the reverse way around, if your retirement portfolio gets quite bonds-heavy, then market gyrations have less impact on your portfolio (better sleep at night), but returns are stunted.

Also some experts believe that future equity returns in the coming decades will be nowhere near what was experienced in the past century. Let me quote John Bogle himself in a recent interview.

http://www.etf.com/sections/features/21 ... yield.html

Bogle: If we're lucky, we could get 5 percent earnings growth and the dividend yield is about 2 percent—that should give you a 7 percent fundamental return. If P/Es go down a little bit, significantly even, that might take it to 6. And if P/Es were to rise, which I think is less likely, it could add a point or two, take that 7 to 8 or 9.

The long-term market return we've been reading about since the beginning of time, 9 percent, was for most of the period 4.5 percent dividend yield, 4.5 percent earnings growth. But we know the dividend yield isn't 4.5 percent anymore. So that's why I don’t look to the 9 percent to return.

ETF.com: Let’s look at total return in a combined stock and bond portfolio: Going back to your stock market tally of earnings growth and dividends, plus the bond market with the tilt you talked about with the corporate side, what do you come up with?

Bogle: It’s about 7 percent for stocks and about 2.75 or 3 for bonds if you're willing to take that extra risk [some corporates]. So you add them up and divide by, say, 2. In other words, if you've got half of your portfolio at 7, and half of your portfolio at, say, 3, that's 10. And after you divide by 2, that's a 5 percent return.

In his recent 'Millenials' e-book, Bill Bernstein gets even gloomier than that on his long term forecast.

Now the part I cannot understand in their reasoning is they both seem to heavily rely on the Gordon equation, and pointing out that dividend yield is now much smaller, so the sum of dividend yield and earning growth is smaller. Well, is it that obvious? A lot of companies nowadays are making much less use of dividends, hence shifting the dynamics. Earning growth should be improved by such shift, in other words. And it appears that this was the case in the past 30 years (where the dividend yield was already poor, I believe). Comments from experts on this consideration would be welcome!
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Re: Please explain a 3% SWR to me

Post by tadamsmar »

StarbuxInvestor wrote:I try and try but I just can't wrap my head around someone needing 33x for a 30 year retirement. It seems if that is true it could only be because of too much risk in the portfolio. I know I am missing something. Help bring me in from the dark.
According to the Trinity Study:

http://www.bogleheads.org/wiki/File:TrinityTable3.jpg

A 3% rate is not safe for a 30 year retirement if you don't take on some stock risk. But, in the study, the only safe alternative to stocks was conventional bonds. I guess 100% inflation protected bonds might be safe, not sure.

Do you understand the withdrawal amount is fixed at retirement and inflation-adjusted from then on? If you have $1,000,000 at retirement, you can take 30,000 (%3) the first year. For each year after the first year, you ignore the percentage and withdraw $30,000 inflation adjusted based on cumulative inflation since the first year.
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TheTimeLord
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Re: Please explain a 3% SWR to me

Post by TheTimeLord »

The Wizard wrote:33x is a conservative goal, for someone who is both risk averse and who desires to annuitize nothing, thus maximizing his expected estate for heirs.
Most of us can do OK with a lesser multiplicative factor..
I think the desire to pass things along to heirs must be a bigger driver in this. Which in my case with no children, I am happy to leave what is left to charity or my nephews but not a driver in my case.
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Re: Please explain a 3% SWR to me

Post by TheTimeLord »

tadamsmar wrote:
StarbuxInvestor wrote:I try and try but I just can't wrap my head around someone needing 33x for a 30 year retirement. It seems if that is true it could only be because of too much risk in the portfolio. I know I am missing something. Help bring me in from the dark.
According to the Trinity Study:

http://www.bogleheads.org/wiki/File:TrinityTable3.jpg

A 3% rate is not safe for a 30 year retirement if you don't take on some stock risk. But, in the study, the only safe alternative to stocks was conventional bonds. I guess 100% inflation protected bonds might be safe, not sure.

Do you understand the withdrawal amount is fixed at retirement and inflation-adjusted from then on? If you have $1,000,000 at retirement, you can take 30,000 (%3) the first year. For each year after the first year, you ignore the percentage and withdraw $30,000 inflation adjusted based on cumulative inflation since the first year.
Wouldn't a portfolio of 100% TIPS solve the inflation risk? It would seem with 33x you could go 10% equities/90% TIPS and you would be in excellent shape.
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Re: Please explain a 3% SWR to me

Post by random_walker_77 »

Bottomline, I think it boils down to sequence of return risk and long retirement horizons. Make an assumption about what sort of returns you'd expect, say 8%. Subtract off 2% for inflation. Now if your withdrawal rate is less, at 3-4%, why aren't you fine? You would initially think you'd be more than fine and that your portfolio would continue to grow, right?

So let's ask, "what can go wrong?" Well, if your portfolio drops sharply, and your withdrawals are fixed, then now you're pulling out maybe 8% of the remaining portfolio and you run the risk of drawing it down into a death spiral. This is more of a problem in the early years of a retirement. Think of a 30 year mortage and how little goes towards principal during the early years. With withdrawals, it's the same thing in reverse -- you'd better not be pulling off too much of the principal in the early years to ensure that it throws off enough interest to keep things going for 30 years.

Now, if you're less interested in leaving an inheritance, and you know retirement won't be longer than 30 years, then the TIPS idea comes into play. That route leads to nearly zero risk, but also a minimal expected inheritance. Whereas the market portfolio approach generally gives an expected average inheritance greater than what you started with, but at the risk of maybe running out early. Dialing in a safe withdrawal rate is an attempt to rein in that risk. Someone in their 30's should set a lower SWR than someone in their 50's.
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Re: Please explain a 3% SWR to me

Post by midareff »

The most enlightening book about retirement funding, sequence of return risk and other factors you will need to consider are in Jim Otar's book; "Unveiling the retirement Myth". It doesn't seem to be available on Amazon right now but you should make every effort to obtain a copy you can read. While there are many, many books on accumulation there are very few on the decumulation cycle. You might want to spend a little time with some of Easterling's writings on stock market cycles, which are presently available on Amazon.

From the first quarter of 2009 this market has been a snorting bull ride that provides you with mental recency that can be most dangerous. Let's suppose you started your 5% withdrawal at market peak in 2007, full of confidence from a 5 year bull, like we have now. Market (SP) drops 50%, so withdrawals now look like 10% or more. Suppose it takes 5 or 6 years for the highs of the market to re-establish themselves, .. thereby reducing your SWR back to 5%. Of course the trouble is that in that 5 or 6 years period your portfolio has been depleted (and since you favor an aggressive stance) to the point where insufficient assets remain to support your 5% dependent lifestyle in your more golden years.

Have you read Bengen's withdrawal analysis? How similar do you find the returns Bengen identified for stocks and bonds to those available today, and going forward? I find them nothing like today's returns or expected returns for the decade moving forward. I am 66, retired and unable to generate any confidence level in a SWR of 4% based on the conditions/forward returns he used for his paper vs. those prevalent today.

Go through too much capital in the early years by using a higher withdrawal rate needed to support an earlier retirement and Mr. Market throws you a curve ball for 5 or 6 years and then what? On the other hand if a conservative WR leads to a buildup of unneeded cash you can always take a longer trip, buy a nicer car, move to a nicer residence, buy a summer cottage, increase your charity giving, etc., lots of good possibilities.
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Re: Please explain a 3% SWR to me

Post by Cut-Throat »

Use VPW and you can probably spend a lot more than 4% and if we do run into a bad market, it cannot fail.
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Re: Please explain a 3% SWR to me

Post by thx1138 »

midareff wrote:The most enlightening book about retirement funding, sequence of return risk and other factors you will need to consider are in Jim Otar's book; "Unveiling the retirement Myth". It doesn't seem to be available on Amazon right now but you should make every effort to obtain a copy you can read.
You can get an electronic copy for $6 from Otar's website:

http://www.retirementoptimizer.com/
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Re: Please explain a 3% SWR to me

Post by IlliniDave »

I think part of the reason is the general expectation that returns going forward are likely to be somewhat below historical values (which the Trinity Study was based on). That's part of the reason I'm using 3% in my planning, the other being my general habit of being somewhat financially conservative. It won't bother me one bit to die with some of my money unspent.
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Re: Please explain a 3% SWR to me

Post by TheTimeLord »

It would seem to me a lot of the fret is about down markets in early retirement. I guess for the most part it seems very unlikely to me that savy folks suc as post on this board would always adjust if that were the case. I mean to some extent there are always end of the world scenarios that will defeat a plan but betting on that being the case and trying to overcome them usually harms the many more likely scenarios.
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Re: Please explain a 3% SWR to me

Post by TheTimeLord »

IlliniDave wrote:I think part of the reason is the general expectation that returns going forward are likely to be somewhat below historical values (which the Trinity Study was based on). That's part of the reason I'm using 3% in my planning, the other being my general habit of being somewhat financially conservative. It won't bother me one bit to die with some of my money unspent.
I don't worry about dying with money unspent. I worry about dying with life unlived.
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Re: Please explain a 3% SWR to me

Post by heyyou »

On why 3% would only last 30 years, look at the cumulative inflation from 1970 t0 1990 to see where the compounded earnings went. As mentioned, that 3% was boosted by inflation for each year of retirement. The final withdrawals were several multiples of the initial amounts.
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Re: Please explain a 3% SWR to me

Post by TheTimeLord »

heyyou wrote:On why 3% would only last 30 years, look at the cumulative inflation from 1970 t0 1990 to see where the compounded earnings went. As mentioned, that 3% was boosted by inflation for each year of retirement. The final withdrawals were several multiples of the initial amounts.
I would assume with a 100% TIPS portfolio it would last several years beyond 30.
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Re: Please explain a 3% SWR to me

Post by The Wizard »

I have a feeling that most folks using a 3% SWR and a 50/50 portfolio will end up with a LARGER portfolio after 30 years than they started with.
FireCalc can give some insight on this...
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Re: Please explain a 3% SWR to me

Post by bigred77 »

midareff wrote:The most enlightening book about retirement funding, sequence of return risk and other factors you will need to consider are in Jim Otar's book; "Unveiling the retirement Myth". It doesn't seem to be available on Amazon right now but you should make every effort to obtain a copy you can read. While there are many, many books on accumulation there are very few on the decumulation cycle. You might want to spend a little time with some of Easterling's writings on stock market cycles, which are presently available on Amazon.

From the first quarter of 2009 this market has been a snorting bull ride that provides you with mental recency that can be most dangerous. Let's suppose you started your 5% withdrawal at market peak in 2007, full of confidence from a 5 year bull, like we have now. Market (SP) drops 50%, so withdrawals now look like 10% or more. Suppose it takes 5 or 6 years for the highs of the market to re-establish themselves, .. thereby reducing your SWR back to 5%. Of course the trouble is that in that 5 or 6 years period your portfolio has been depleted (and since you favor an aggressive stance) to the point where insufficient assets remain to support your 5% dependent lifestyle in your more golden years.

Have you read Bengen's withdrawal analysis? How similar do you find the returns Bengen identified for stocks and bonds to those available today, and going forward? I find them nothing like today's returns or expected returns for the decade moving forward. I am 66, retired and unable to generate any confidence level in a SWR of 4% based on the conditions/forward returns he used for his paper vs. those prevalent today.

Go through too much capital in the early years by using a higher withdrawal rate needed to support an earlier retirement and Mr. Market throws you a curve ball for 5 or 6 years and then what? On the other hand if a conservative WR leads to a buildup of unneeded cash you can always take a longer trip, buy a nicer car, move to a nicer residence, buy a summer cottage, increase your charity giving, etc., lots of good possibilities.
I have a problem with the second paragraph here. Most (prudent) retiree's are not 100% stock! Most are somewehere near 50/50 stocks and bonds (I assume anywhere from 40/60 to 60/40). For a 50/50 investor to lose 50% of his portfolio in 1 year the stock market would have to go to 0 and bonds would have to remain flat. I'm not saying thats impossible but its far less likely than it seems to be implied around here.

Lets take the hypothetical investor who retired in 2007 and give him a healthy 5% WR and a 50/50 portfolio. His equities dropped 50% but he earned 5% on his fixed income. His portfolio took a giant hit, no doubt. Hes now left with 77.5% of his original portfolio ( - 5% (his first years withdrawl) = 72.5% of year 0 balance). If he takes out an equal amount in year 2 hes still around a 6.9% WR. Thats a far cry from withdrawing 10%. In 2009, if he rebalanced (not that he can count on this in the future), his 50/50 portfolio returned about 16% and hes back around 80% of his original portfolio even after his yearly withdrawl. His withdrawls going forward are now 6% of his balance.

Now I agree a 5% withdrawl rate may be a bit high and the numbers going foraward certainly don't look great after cherry picking a 50% decline in equities in year 1 of retirement. I just don't think 4% is all that imprudent (especially if one has some flexibility).
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Re: Please explain a 3% SWR to me

Post by bigred77 »

The Wizard wrote:I have a feeling that most folks using a 3% SWR and a 50/50 portfolio will end up with a LARGER portfolio after 30 years than they started with.
FireCalc can give some insight on this...
I 100% agree
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Re: Please explain a 3% SWR to me

Post by Prudence »

StarbuxInvestor wrote:
heyyou wrote:On why 3% would only last 30 years, look at the cumulative inflation from 1970 t0 1990 to see where the compounded earnings went. As mentioned, that 3% was boosted by inflation for each year of retirement. The final withdrawals were several multiples of the initial amounts.
I would assume with a 100% TIPS portfolio it would last several years beyond 30.
Where can you go wrong with 100% TIPS? After you account for the taxes paid on the inflation adjustment, do they still mitigate the inflation risk? Also, what about the negative yields on the bonds at issue - is that a problem if you hold the bonds to maturity? (my questions assume a TIPS bond ladder rather than a TIPS fund)
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Re: Please explain a 3% SWR to me

Post by IlliniDave »

StarbuxInvestor wrote:
IlliniDave wrote:I think part of the reason is the general expectation that returns going forward are likely to be somewhat below historical values (which the Trinity Study was based on). That's part of the reason I'm using 3% in my planning, the other being my general habit of being somewhat financially conservative. It won't bother me one bit to die with some of my money unspent.
I don't worry about dying with money unspent. I worry about dying with life unlived.
I agree with that sentiment! :sharebeer

I've happily discovered that living life and spending money are less correlated than I believed when I was younger. That realization changed quite a lot for me.
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Re: Please explain a 3% SWR to me

Post by FinancialDave »

thx1138 wrote:
midareff wrote:The most enlightening book about retirement funding, sequence of return risk and other factors you will need to consider are in Jim Otar's book; "Unveiling the retirement Myth". It doesn't seem to be available on Amazon right now but you should make every effort to obtain a copy you can read.
You can get an electronic copy for $6 from Otar's website:

http://www.retirementoptimizer.com/
Otar: >Most Research and Many Strategies Are “Just Plain Garbage.”<

This is an Engineer that I can relate to -- searches out the facts amongst all the fiction in the financial market place today.

Even though I hate reading books on the computer I am going to order the $6 pdf, as I just can't justify the $300 version on Amazon.

The bottom line however to retirement strategies is that if you can be flexible you can essentially "ride thru" the variations that are bound to come from your inaccurate forecasting of all the variables that relate to your retirement spending, investment results, and life span. There is a great article in the AAII April 2014 issue called A MORE DYNAMIC APPROACH TO RETIREMENT SPENDING, if you have access to it:

http://www.aaii.com/journal/article/a-m ... t-spending


fd
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Re: Please explain a 3% SWR to me

Post by YDNAL »

StarbuxInvestor wrote:I try and try but I just can't wrap my head around someone needing 33x for a 30 year retirement. It seems if that is true it could only be because of too much risk in the portfolio. I know I am missing something. Help bring me in from the dark.
Perhaps you are "missing" that NO ONE knows what is going to work over a 30-year period.

So, beware of what you hear/read!
  • "If you can't dazzle them with brilliance, you can baffle them with BS" ― W.C. Fields. :D
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Re: Please explain a 3% SWR to me

Post by Rodc »

Recency bias.

And on the forum a game of seeing who can win the title of most pessimistic.

I remember listening to some moms playing a similar game, "who can be the best mom": topic was how old would your child have to be before you would leave them alone in a hotel room while you went down to happy hour. Around and they went each upping the ante until the winning bid was 18 years old. :oops:

I sometimes think we see a similar dynamic here.
We live a world with knowledge of the future markets has less than one significant figure. And people will still and always demand answers to three significant digits.
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Phineas J. Whoopee
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Re: Please explain a 3% SWR to me

Post by Phineas J. Whoopee »

You don't need to understand it or use it. Everything is only a suggestion. If you don't want to go with 3% then choose not to.

It's a matter of one's own risk aversion, and utility function. Four percent is probably going to be good for 30 years but was only ever meant as a crude planning guideline, not a rule. Maybe it won't last that long. Maybe three percent won't. Maybe you'll be lucky and live in retirement for 50 years and more. It's easy for many to say now "I don't want to be a little old man for that long." At age 97, should you get there, ask yourself whether it's true.

The main factor is, as you said:
StarbuxInvestor wrote:I don't worry about dying with money unspent. I worry about dying with life unlived.
To the extent living life, for you, requires spending more money, you've provided a good description of a dynamic tension: how to spend enough to live while alive and still keep enough not to risk living without. There are tradeoffs but no answers.

Three percent is somebody else's tune. Everybody must dance to their own. What's yours? That isn't a question for you to answer to me or us. It's a question to answer for yourself.

What is the difference between the life you've lived already, and the life you aspire to? What will it take to fund the aspiration, and how much time must you free up to accomplish it? That's another for you alone.

Hope that helps.

PJW
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Re: Please explain a 3% SWR to me

Post by HomerJ »

4% is ALREADY the conservative number...

Most retirees in the past could have easily pulled 5% or even 6% and been fine...

4% ALREADY accounts for the worst-case scenarios... 4% worked during the Great Depression, 4% worked during 60s-70s when stocks were stagnant, bonds were in a rising interest rate environment, and inflation was high (at the end of that period)....

And still 4% worked (okay there was one starting year, I think 1966, where you would have run out of money in the 28th year with an inflexible 4% SWR).

4% is plenty conservative, especially if you're willing to use SPIAs as a plan B.

If you retire at 60, and 15 years in, you see 4% is not working, and you've lost 50% of your portfolio, then you can just buy a SPIA at 75 which will pay in the 8%+ range (giving you the same payout as the 4% SWR of 100% of your portfolio you started with).
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Re: Please explain a 3% SWR to me

Post by longinvest »

Cut-Throat wrote:Use VPW and you can probably spend a lot more than 4% and if we do run into a bad market, it cannot fail.
(Copied from http://www.bogleheads.org/forum/viewtop ... 0#p2038210 )

If one wishes a 100% success rate for not depleting a portfolio in less nor more than 35 years (or any period of time of your own selection), then a simple solution exists: Variable Percentage Withdrawal (VPW), appopriate for a Three Funds Portfolio.

Once such a sensible withdrawal method is selected, one can then chose an appropriate asset allocation that will help control drawdowns (bonds) and combat inflation (stocks).

For more information on VPW: http://www.bogleheads.org/forum/viewtop ... 0#p1761563

The VPW spreadsheet can be found in the Bogleheads Wiki: http://www.bogleheads.org/wiki/Variable ... withdrawal
Variable Percentage Withdrawal (bogleheads.org/wiki/VPW) | One-Fund Portfolio (bogleheads.org/forum/viewtopic.php?t=287967)
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Re: Please explain a 3% SWR to me

Post by Phineas J. Whoopee »

longinvest wrote:
Cut-Throat wrote:Use VPW and you can probably spend a lot more than 4% and if we do run into a bad market, it cannot fail.
(Copied from http://www.bogleheads.org/forum/viewtop ... 0#p2038210 )

If one wishes a 100% success rate for not depleting a portfolio in less nor more than 35 years (or any period of time of your own selection), then a simple solution exists: Variable Percentage Withdrawal (VPW), appopriate for a Three Funds Portfolio.

Once such a sensible withdrawal method is selected, one can then chose an appropriate asset allocation that will help control drawdowns (bonds) and combat inflation (stocks).

For more information on VPW: http://www.bogleheads.org/forum/viewtop ... 0#p1761563

The VPW spreadsheet can be found in the Bogleheads Wiki: http://www.bogleheads.org/wiki/Variable ... withdrawal
Yes, that's right. Under that regime the portfolio cannot fail. One's ability to maintain life in a harsh world can. Failure in that sense is still possible, regardless of likelihood. I'm not asking for perfection, but I sense in this thread others are.

The portfolio takes no risks. I do.

The portfolio is my tool. I am not its.

Lest anybody misunderstand, I've no intention of blindly following a percentage-based rule that would have worked for thirty years even if it started in 1966. I do not regard the future as deterministic, let alone repetitive.

PJW
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Re: Please explain a 3% SWR to me

Post by TheScarletPimpernel »

For the most part TIPS are an illusion for retirees. Depending on your circumstance the basket of goods you are likely to purchase will be vastly different than the basket of goods TIPS encapsulates. Looking at my own record now, my personalized basket of goods has far outstripped inflation. My advice is before you commit to TIPS as the answer you construct a personal inflation index and track it for 5-7 years and see how it fares. I know I was unpleasantly surprised. Understand as you age the diversity of goods and services you consume is likely to decrease dramatically so the generalized TIPS bucket of goods is less likely to be applicable to your circumstances.
longinvest
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Re: Please explain a 3% SWR to me

Post by longinvest »

Phineas J. Whoopee wrote:Yes, that's right. Under that regime the portfolio cannot fail. One's ability to maintain life in a harsh world can. Failure in that sense is still possible, regardless of likelihood. I'm not asking for perfection, but I sense in this thread others are.

The portfolio takes no risks. I do.

The portfolio is my tool. I am not its.

Lest anybody misunderstand, I've no intention of blindly following a percentage-based rule that would have worked for thirty years even if it started in 1966. I do not regard the future as deterministic, let alone repetitive.
PJW,

I agree. Blindly following a percentage based withdrawal is not recommended, but VPW is a much better starting point (or rule of thumb) than the typical SWR discussed every day on this forum.

No withdrawal scheme can replace a life-time garanteed inflation-adjusted annuity like Social Security, but a good withdrawal method, with readjustments every few years, based on life events and health conditions, can be a sensible tool to use in retirement, along with Social Security and pensions.

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Re: Please explain a 3% SWR to me

Post by Artsdoctor »

Rodc wrote:Recency bias.

And on the forum a game of seeing who can win the title of most pessimistic.

I remember listening to some moms playing a similar game, "who can be the best mom": topic was how old would your child have to be before you would leave them alone in a hotel room while you went down to happy hour. Around and they went each upping the ante until the winning bid was 18 years old. :oops:

I sometimes think we see a similar dynamic here.
Well put! But in this part of Los Angeles, the moms would have easily driven up the age to 25 . . .
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Cut-Throat
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Re: Please explain a 3% SWR to me

Post by Cut-Throat »

Phineas J. Whoopee wrote: Yes, that's right. Under that regime the portfolio cannot fail. One's ability to maintain life in a harsh world can. Failure in that sense is still possible, regardless of likelihood. I'm not asking for perfection, but I sense in this thread others are.

The portfolio takes no risks. I do.

The portfolio is my tool. I am not its.

Lest anybody misunderstand, I've no intention of blindly following a percentage-based rule that would have worked for thirty years even if it started in 1966. I do not regard the future as deterministic, let alone repetitive.

PJW
Running without a withdrawal plan for your finances is not a 'Good Plan'.

Under the VPW plan, yes it is possible that life would not be maintained in a harsh world, but no other plan that I've seen would fare better. Most everything else is far worse, even the 2% SWR guys would fare worse under certain scenarios. So, the key here is, if you can afford a 2% SWR, why do it if you don't have to? You may never need to if the markets are kind. Use VPW and spend away and if the bad market hits, VPW will rachet back to your 2% if need be. So why scrimp, if you don't need to?

So, if the Harsh world comes, chances are running with no plan at all will leave you far more destitute than VPW would.
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Re: Please explain a 3% SWR to me

Post by pkcrafter »

starbux wrote:
I think the desire to pass things along to heirs must be a bigger driver in this.
No, it's not money to pass along to heirs. The "safe" withdrawal rate is based on a specified failure rate of going broke. Most people want only a 10% chance of failure and the safe withdrawal rate is determined on market returns and volatility. Of course, this means that while 10% may fail, 90% will not only not fail, but they will grow. I know, it's just bad luck. :wink:

The safe rate is defined as a starting withdrawal rate with inflation increases each year, come hell or high water. That means a complete idiot should not run out of money, even if they made no adjustments for any events. The rate was 4%, then it was recently changed to 3%, but the smart people who come up with these rates are victims of recency bias as Rodc has said above. A few years back, Wade Pfau came up with 1.8%.

On the other hand, William Bengen reports that investors were increasing inflation adjustments in the inflationary years of the 1970s and 80s until withdrawal rates were up to 9%. Obviously, this is failure territory, and the only thing that saved these investors was the great bull run that followed. This example means that safe withdrawal rates may not be idiot proof. It's simple, pay attention and adjust things when times are different. Doing so will greatly reduce your potential failure rate. For instance, 2013 was a very good year. I withdrew the same amount as 2012 last year plus a slight increase, but the portfolio was left with more in it than before 2013. Another way to do this is take the increased withdraw as a percentage of portfolio value, but put aside the surplus to get you through a year where returns are down. Don't be an idiot, use some common sense. :happy

A word on recency bias. The big problem with safe withdrawal rates is the sequence of returns, so some of the lower safe withdrawal rate is/was justified. They seem to now be talking 4% again. But, recency can easily last 10 years, which is not short term to a retiree or someone 10 years from retirement. Long term numbers, i.e. 30, 40, 80 years don't mean anything to investors living and investing year after year because what they really experience is a series of short term situations that never fit long term averages.


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Re: Please explain a 3% SWR to me

Post by longinvest »

Paul,

A non-intuitive problem of not withdrawing more in good market years is that it leads one to buy high (reinvest the excess in up years) only to sell low later (withdraw more in down years).

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Re: Please explain a 3% SWR to me

Post by jasonv »

pkcrafter wrote:starbux wrote:
I think the desire to pass things along to heirs must be a bigger driver in this.
No, it's not money to pass along to heirs. The "safe" withdrawal rate is based on a specified failure rate of going broke. Most people want only a 10% chance of failure and the safe withdrawal rate is determined on market returns and volatility. Of course, this means that while 10% may fail, 90% will not only not fail, but they will grow. I know, it's just bad luck. :wink:

The safe rate is defined as a starting withdrawal rate with inflation increases each year, come hell or high water. That means a complete idiot should not run out of money, even if they made no adjustments for any events. The rate was 4%, then it was recently changed to 3%, but the smart people who come up with these rates are victims of recency bias as Rodc has said above. A few years back, Wade Pfau came up with 1.8%.

On the other hand, William Bengen reports that investors were increasing inflation adjustments in the inflationary years of the 1970s and 80s until withdrawal rates were up to 9%. Obviously, this is failure territory, and the only thing that saved these investors was the great bull run that followed. This example means that safe withdrawal rates may not be idiot proof. It's simple, pay attention and adjust things when times are different. Doing so will greatly reduce your potential failure rate. For instance, 2013 was a very good year. I withdrew the same amount as 2012 last year plus a slight increase, but the portfolio was left with more in it than before 2013. Another way to do this is take the increased withdraw as a percentage of portfolio value, but put aside the surplus to get you through a year where returns are down. Don't be an idiot, use some common sense. :happy

A word on recency bias. The big problem with safe withdrawal rates is the sequence of returns, so some of the lower safe withdrawal rate is/was justified. They seem to now be talking 4% again. But, recency can easily last 10 years, which is not short term to a retiree or someone 10 years from retirement. Long term numbers, i.e. 30, 40, 80 years don't mean anything to investors living and investing year after year because what they really experience is a series of short term situations that never fit long term averages.


Paul
Rather than settle for a SWR less than 4% today, wouldn't it be far better to annuitize using a product like this:

http://www.principal.com/retirement/inc ... income.htm

Although the quotes are nearly a year old now, the 100% J&S with Inflation Protection Rider annuity was paying a rate of 4.00632% for a 65 year old. I wonder if there is a general bias against SPIAs among Bogleheads, or if there is some other consideration that I am missing.
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Re: Please explain a 3% SWR to me

Post by livesoft »

StarbuxInvestor wrote:I would assume with a 100% TIPS portfolio it would last several years beyond 30.
I thought the problem with that is that there were no TIPS with maturities longer than 30 years, so such a portfolio is not technically possible. One would have to reinvest along the way and that is problematic.
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Re: Please explain a 3% SWR to me

Post by livesoft »

Someone with no desire to leave money to anyone living or dead could easily buy one or more SPIAs and cover longevity risk and then get on with spending lots more than 3%.
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Re: Please explain a 3% SWR to me

Post by HomerJ »

jasonv wrote:I wonder if there is a general bias against SPIAs among Bogleheads, or if there is some other consideration that I am missing.
Most of us love SPIAs... It's only "good" annuity...

It also means no inheritance, so few of us want to go 100% SPIA.

When I retire with $2 million, I definitely see myself buying a SPIA for $200,000 every 5 years until our expenses are fully covered.
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Re: Please explain a 3% SWR to me

Post by jasonv »

HomerJ wrote:
jasonv wrote:I wonder if there is a general bias against SPIAs among Bogleheads, or if there is some other consideration that I am missing.
Most of us love SPIAs... It's only "good" annuity...

It also means no inheritance, so few of us want to go 100% SPIA.

When I retire with $2 million, I definitely see myself buying a SPIA for $200,000 every 5 years until our expenses are fully covered.
Indeed, by using SPIAs, the same effective spending power can be achieved with less than 100% of the portfolio. As an example, opting for a 4% SPIA instead of a 3% SWR would leave the remaining 25% of the entire portfolio to be passed along to heirs. Meanwhile, the inheritance would have a lower risk of being depleted due to future market volatility because none of it would be needed to supply retirement income.
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Re: Please explain a 3% SWR to me

Post by cowboysFan »

HomerJ wrote:4% is ALREADY the conservative number...

Most retirees in the past could have easily pulled 5% or even 6% and been fine...

4% ALREADY accounts for the worst-case scenarios... 4% worked during the Great Depression, 4% worked during 60s-70s when stocks were stagnant, bonds were in a rising interest rate environment, and inflation was high (at the end of that period)....

And still 4% worked (okay there was one starting year, I think 1966, where you would have run out of money in the 28th year with an inflexible 4% SWR).
You've made this false assertion before and I don't know where you got it from. According to the wiki, http://www.bogleheads.org/wiki/File:TrinityTable3.jpg, a 50/50 portfolio had a 5% failure rate. Yes, going up to 75% equities could have gotten you a lower SWR, but most bogleheads think being 75% equities in retirement is crazy. Even that 4% probably overstates what retirees could have withdrawn in the real world. Prior to 1975, index funds didn't exist and bid-ask spreads were higher, so you were probably paying 1% AUM for a broker to manage your money and trading costs. If you retired prior to the introduction of IRAs and 401ks, you had to pay taxes, so that probably takes out another 1%. Your safe spending rate was probably about 2% for real retirees throughout much of the 20th century.
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Re: Please explain a 3% SWR to me

Post by 555 »

jasonv wrote:
HomerJ wrote:
jasonv wrote:I wonder if there is a general bias against SPIAs among Bogleheads, or if there is some other consideration that I am missing.
Most of us love SPIAs... It's only "good" annuity...

It also means no inheritance, so few of us want to go 100% SPIA.

When I retire with $2 million, I definitely see myself buying a SPIA for $200,000 every 5 years until our expenses are fully covered.
Indeed, by using SPIAs, the same effective spending power can be achieved with less than 100% of the portfolio. As an example, opting for a 4% SPIA instead of a 3% SWR would leave the remaining 25% of the entire portfolio to be passed along to heirs. Meanwhile, the inheritance would have a lower risk of being depleted due to future market volatility because none of it would be needed to supply retirement income.
Or spend half on the annuity, and then you only need to withdraw from the other half at an ultrasafe 2% rate.
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Re: Please explain a 3% SWR to me

Post by pkcrafter »

jasonv wrote:
pkcrafter wrote:starbux wrote:
I think the desire to pass things along to heirs must be a bigger driver in this.
No, it's not money to pass along to heirs. The "safe" withdrawal rate is based on a specified failure rate of going broke. Most people want only a 10% chance of failure and the safe withdrawal rate is determined on market returns and volatility. Of course, this means that while 10% may fail, 90% will not only not fail, but they will grow. I know, it's just bad luck. :wink:

The safe rate is defined as a starting withdrawal rate with inflation increases each year, come hell or high water. That means a complete idiot should not run out of money, even if they made no adjustments for any events. The rate was 4%, then it was recently changed to 3%, but the smart people who come up with these rates are victims of recency bias as Rodc has said above. A few years back, Wade Pfau came up with 1.8%.

On the other hand, William Bengen reports that investors were increasing inflation adjustments in the inflationary years of the 1970s and 80s until withdrawal rates were up to 9%. Obviously, this is failure territory, and the only thing that saved these investors was the great bull run that followed. This example means that safe withdrawal rates may not be idiot proof. It's simple, pay attention and adjust things when times are different. Doing so will greatly reduce your potential failure rate. For instance, 2013 was a very good year. I withdrew the same amount as 2012 last year plus a slight increase, but the portfolio was left with more in it than before 2013. Another way to do this is take the increased withdraw as a percentage of portfolio value, but put aside the surplus to get you through a year where returns are down. Don't be an idiot, use some common sense. :happy

A word on recency bias. The big problem with safe withdrawal rates is the sequence of returns, so some of the lower safe withdrawal rate is/was justified. They seem to now be talking 4% again. But, recency can easily last 10 years, which is not short term to a retiree or someone 10 years from retirement. Long term numbers, i.e. 30, 40, 80 years don't mean anything to investors living and investing year after year because what they really experience is a series of short term situations that never fit long term averages.


Paul
Rather than settle for a SWR less than 4% today, wouldn't it be far better to annuitize using a product like this:

http://www.principal.com/retirement/inc ... income.htm

Although the quotes are nearly a year old now, the 100% J&S with Inflation Protection Rider annuity was paying a rate of 4.00632% for a 65 year old. I wonder if there is a general bias against SPIAs among Bogleheads, or if there is some other consideration that I am missing.
Hmmm, SPIAs yes, Principal, no. There is no bias against SPIAs. They are often recommended for building an income floor.

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Re: Please explain a 3% SWR to me

Post by HomerJ »

cowboysFan wrote:
HomerJ wrote:4% is ALREADY the conservative number...

Most retirees in the past could have easily pulled 5% or even 6% and been fine...

4% ALREADY accounts for the worst-case scenarios... 4% worked during the Great Depression, 4% worked during 60s-70s when stocks were stagnant, bonds were in a rising interest rate environment, and inflation was high (at the end of that period)....

And still 4% worked (okay there was one starting year, I think 1966, where you would have run out of money in the 28th year with an inflexible 4% SWR).
You've made this false assertion before and I don't know where you got it from. According to the wiki, http://www.bogleheads.org/wiki/File:TrinityTable3.jpg, a 50/50 portfolio had a 5% failure rate. Yes, going up to 75% equities could have gotten you a lower SWR, but most bogleheads think being 75% equities in retirement is crazy. Even that 4% probably overstates what retirees could have withdrawn in the real world. Prior to 1975, index funds didn't exist and bid-ask spreads were higher, so you were probably paying 1% AUM for a broker to manage your money and trading costs. If you retired prior to the introduction of IRAs and 401ks, you had to pay taxes, so that probably takes out another 1%. Your safe spending rate was probably about 2% for real retirees throughout much of the 20th century.
Here's a chart from Wade Pfau's website

Image

Looks like you're right... There were 5 years in the past 100 where 4% would have failed... (All in the 1965-1969 range). I thought it was just one year. So you're right, and I'm wrong... looks like a failure rate of 5% where you run of money at 28 years instead of 30 (assuming you live that long, probably only a 50% chance of that).... But, of course, that only happens if one stuck blindly to 4% and didn't adjust spending at all... The actual sustainable lowest SWRs are close enough to 4% that one could have adjusted if needed.

I still don't understand people who claim 3% is the new safe SWR... That's basically saying you think the next 30 years will be worse than the Great Depression, or worse than the 70s where inflation hit double-digits.

Look at the range of SWRs... There's a LOT of years where 5%, 6%, even 7% worked just fine.... 4% (okay 3.8%) is a very conservative SWR to start with... 5-10 years into your retirement you can re-assess... If things are going well, up your spending a bit... If things are going really bad, cutting back a bit will get you through 30 years, no problem...

And you can always buy a SPIA halfway through retirement as a last resort... In your 70s, those pay VERY well.
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Re: Please explain a 3% SWR to me

Post by grayfox »

StarbuxInvestor wrote:I try and try but I just can't wrap my head around someone needing 33x for a 30 year retirement. It seems if that is true it could only be because of too much risk in the portfolio. I know I am missing something. Help bring me in from the dark.
Do you know how to put together a spreadsheet? If yes, set up spreadsheet to simulate withdrawals. Create random numbers for annual portfolio return and annual inflation. Start the withdrawal amount at, say 4%, and increase with inflation every year. Calculate the portfolio balance each year. Run some random trials.

When you find a case that ran out of money before 30 years, examine what happened. That should help you to understand failure mechanism.

:idea: My guess would be that a typical failure occurs when 1) inflation is high, rapidly increasing the w/d amount, and 2) early year returns are poor, quickly reducing the balance.

Could this happen? Why not? :arrow: A possible macroeconomic scenario: Because of all the Fed ZIRP, QE, etc. we get runaway inflation like the 1970s, 10%. Interest rates shoot up to 12%. That drives down stock market valuations to P/E10 = <10. Bonds losses. Stock losses. Meanwhile, withdrawal rate increases 10% per year. Portfolio is depleted in 20 years.
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Re: Please explain a 3% SWR to me

Post by richard »

Prudence wrote:
StarbuxInvestor wrote:
heyyou wrote:On why 3% would only last 30 years, look at the cumulative inflation from 1970 t0 1990 to see where the compounded earnings went. As mentioned, that 3% was boosted by inflation for each year of retirement. The final withdrawals were several multiples of the initial amounts.
I would assume with a 100% TIPS portfolio it would last several years beyond 30.
Where can you go wrong with 100% TIPS? After you account for the taxes paid on the inflation adjustment, do they still mitigate the inflation risk? Also, what about the negative yields on the bonds at issue - is that a problem if you hold the bonds to maturity? (my questions assume a TIPS bond ladder rather than a TIPS fund)
If you hold TIPS in a taxable account and there is high inflation combined with a high tax rate, your after tax real returns could be rather negative. This is because the inflation adjustment is taxable.

If you buy a TIPS with a negative yield and hold to maturity, you'll get back less in real terms than you paid for it.
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Re: Please explain a 3% SWR to me

Post by richard »

StarbuxInvestor wrote:
The Wizard wrote:33x is a conservative goal, for someone who is both risk averse and who desires to annuitize nothing, thus maximizing his expected estate for heirs.
Most of us can do OK with a lesser multiplicative factor..
I think the desire to pass things along to heirs must be a bigger driver in this. Which in my case with no children, I am happy to leave what is left to charity or my nephews but not a driver in my case.
A problem with most annuities is that they don't adjust for inflation. There are only a few issuers of inflation adjusted annuities. Investing in them exposes you to credit risk if you have a large portfolio. You can't rely on state guarantee associations (which usually have dollar limits in the couple of hundred thousand range, a problem for a large portfolio) and you can't diversify much (because there are only a few issuers). Annuities have been rather safe in the past, but that's no guarantee for the future.
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Re: Please explain a 3% SWR to me

Post by richard »

grayfox wrote:
StarbuxInvestor wrote:I try and try but I just can't wrap my head around someone needing 33x for a 30 year retirement. It seems if that is true it could only be because of too much risk in the portfolio. I know I am missing something. Help bring me in from the dark.
Do you know how to put together a spreadsheet? If yes, set up spreadsheet to simulate withdrawals. Create random numbers for annual portfolio return and annual inflation. Start the withdrawal amount at, say 4%, and increase with inflation every year. Calculate the portfolio balance each year. Run some random trials.

When you find a case that ran out of money before 30 years, examine what happened. That should help you to understand failure mechanism.

:idea: My guess would be that a typical failure occurs when 1) inflation is high, rapidly increasing the w/d amount, and 2) early year returns are poor, quickly reducing the balance.

Could this happen? Why not? :arrow: A possible macroeconomic scenario: Because of all the Fed ZIRP, QE, etc. we get runaway inflation like the 1970s, 10%. Interest rates shoot up to 12%. That drives down stock market valuations to P/E10 = <10. Bonds losses. Stock losses. Meanwhile, withdrawal rate increases 10% per year. Portfolio is depleted in 20 years.
I believe you're ignoring the fact that because many people require a 4% real withdrawal rate to retire and maintain desired spending, a 4% real withdrawal rate must work.
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Re: Please explain a 3% SWR to me

Post by TheTimeLord »

grayfox wrote:
StarbuxInvestor wrote:I try and try but I just can't wrap my head around someone needing 33x for a 30 year retirement. It seems if that is true it could only be because of too much risk in the portfolio. I know I am missing something. Help bring me in from the dark.
Do you know how to put together a spreadsheet? If yes, set up spreadsheet to simulate withdrawals. Create random numbers for annual portfolio return and annual inflation. Start the withdrawal amount at, say 4%, and increase with inflation every year. Calculate the portfolio balance each year. Run some random trials.

When you find a case that ran out of money before 30 years, examine what happened. That should help you to understand failure mechanism.

:idea: My guess would be that a typical failure occurs when 1) inflation is high, rapidly increasing the w/d amount, and 2) early year returns are poor, quickly reducing the balance.

Could this happen? Why not? :arrow: A possible macroeconomic scenario: Because of all the Fed ZIRP, QE, etc. we get runaway inflation like the 1970s, 10%. Interest rates shoot up to 12%. That drives down stock market valuations to P/E10 = <10. Bonds losses. Stock losses. Meanwhile, withdrawal rate increases 10% per year. Portfolio is depleted in 20 years.
I am reasonably sure given enough time and effort I can construct a plausible scenario where virtually all portfolios will fail. That said there has to be a point of diminishing returns from trying to protect one's self from less and less likely events. There are also different degrees of failure from minor lifestyle change to catastrophic. I accept that control is an illusion and all my plans can be laid to ruin in an instant and just march on trying to create a life I want to live.
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Re: Please explain a 3% SWR to me

Post by siamond »

siamond wrote:Also some experts believe that future equity returns in the coming decades will be nowhere near what was experienced in the past century. Let me quote John Bogle himself in a recent interview.

http://www.etf.com/sections/features/21 ... yield.html

Bogle: If we're lucky, we could get 5 percent earnings growth and the dividend yield is about 2 percent—that should give you a 7 percent fundamental return. If P/Es go down a little bit, significantly even, that might take it to 6. And if P/Es were to rise, which I think is less likely, it could add a point or two, take that 7 to 8 or 9.

The long-term market return we've been reading about since the beginning of time, 9 percent, was for most of the period 4.5 percent dividend yield, 4.5 percent earnings growth. But we know the dividend yield isn't 4.5 percent anymore. So that's why I don’t look to the 9 percent to return.

ETF.com: Let’s look at total return in a combined stock and bond portfolio: Going back to your stock market tally of earnings growth and dividends, plus the bond market with the tilt you talked about with the corporate side, what do you come up with?

Bogle: It’s about 7 percent for stocks and about 2.75 or 3 for bonds if you're willing to take that extra risk [some corporates]. So you add them up and divide by, say, 2. In other words, if you've got half of your portfolio at 7, and half of your portfolio at, say, 3, that's 10. And after you divide by 2, that's a 5 percent return.

In his recent 'Millenials' e-book, Bill Bernstein gets even gloomier than that on his long term forecast.

Now the part I cannot understand in their reasoning is they both seem to heavily rely on the Gordon equation, and pointing out that dividend yield is now much smaller, so the sum of dividend yield and earning growth is smaller. Well, is it that obvious? A lot of companies nowadays are making much less use of dividends, hence shifting the dynamics. Earning growth should be improved by such shift, in other words. And it appears that this was the case in the past 30 years (where the dividend yield was already poor, I believe). Comments from experts on this consideration would be welcome!
Now that this thread is heating up... :) Any taker for my question about the Gordon equation and Bogle/Bernstein gloomy forecasts? I don't have the exact numbers handy, but it seems to me that the past 30 years worked reasonably well from an overall return standpoint, and yet dividends were already on the low side...
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