Montecarlo simulation for retirement savings rate, second post of a young investor

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B4Xt3r
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Montecarlo simulation for retirement savings rate, second post of a young investor

Post by B4Xt3r »

Hi All,

I am just getting started (~27) in the investing world, and am trying to figure out a reasonable monthly savings rate to secure my own retirement. I won't be able to simply max out my tax advantaged accounts, I have ~3k per month that I can allocate. Given that, I wanted estimate a reasonable "minimum" that I currently need to save per month to secure my own retirement. Beyond that minimum, I can consider saving for other priorities like house downpayment, car, kids college etc.

So I wrote a monte-carlo simulator. It varies four things: 1)during working years, it uses various inflation-adjusted stock returns in a target retirement 2055 style fund (using means and standard deviations from real world data from 1914), 2) the age of my and my spouse's death based on CDC mortality curves, 3) my retirement age to be in the late 60s, finally, 4) that 8+/-2% of my working career will be spent as unemployed. Then after retirement age, it starts making withdrawals of ~60k per year. Finally, it asks in how many of those futures did four things occur: run out of money (blue curve), leave a 1M inheritance (black curve), live off of interest in retirement (red curve), and leave a 5M inheritance (green curve).

So right now, I am thinking of a monthly savings rate of ~1300, which according to the code should mean that I don't run out of money in 95% of the futures it calculated. Please let me know any and all thoughts? As a random aside, the 8% of unemployment is killer. It meant that I should save ~300 more per month as compared to when I ran the simulation assuming perfect employment.

Image

Best,

-b4xt3r
Last edited by B4Xt3r on Sat Dec 10, 2022 2:00 am, edited 2 times in total.
furwut
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by furwut »

Projections far into the future are fun but I don't know how much reliance we should put on them. I prefer a simpler approach of suggesting one should save 15 - 25% of gross income.

You might find Wade Pfau's paper on Minimum Savings Rate (MSR) interesting.
Safe Savings Rates: A New Approach to Retirement Planning over the Life Cycle

:happy
Last edited by furwut on Sun Oct 09, 2016 10:10 am, edited 1 time in total.
dbr
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by dbr »

Keep in mind that there are already any number of retirement planners out there that use various stochastic means to project outcomes.

That said, doing one's own explorations is definitely recommended as one then knows exactly what one has assumed and what one has varied. One of those interesting explorations is what you are doing with using mortality as a variable. I think I have seen only one other published paper where the odds calculated were those of running out of money and still being alive. It was something by Milevsky, I think. He formulated his statistics in closed form rather than by simulation.
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by B4Xt3r »

dbr wrote:Keep in mind that there are already any number of retirement planners out there that use various stochastic means to project outcomes.

That said, doing one's own explorations is definitely recommended as one then knows exactly what one has assumed and what one has varied. One of those interesting explorations is what you are doing with using mortality as a variable. I think I have seen only one other published paper where the odds calculated were those of running out of money and still being alive. It was something by Milevsky, I think. He formulated his statistics in closed form rather than by simulation.
Yeah, I looked at a couple of the retirement planners and wanted something I could tailor precisely to the funds that I may invest in (i.e. target retirement vanguard 2055). I particularly like the mortality part, there is a huge variability of the age at which people die. The "average" age of death is 78 at the beginning of one's life, however, if you look at it more closely with error, it is something like +/- 10 years. My code now respects that variability.

If you could give a link to that paper by Milvesky, I'd probably read it.
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by LAlearning »

Simple. If you have 3000 to allocate, then do that.
I know nothing!
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by B4Xt3r »

furwut wrote:Projections far into the future are fun but I don't know how much reliance we should put on them. I prefer a simpler approach of suggesting one should save 15 - 25% of gross income.

You might find Wade Pfau's paper on Minimum Savings Rate (MSR) interesting.
Safe Savings Rates: A New Approach to Retirement Planning over the Life Cycle

:happy
It is true that projections into the future become more varied and less reliable. I take that to mean though, that reasonable estimates of such variance become more important. I'll read the paper you cited.

BTW, your estimate of 15-25% of gross income is a reasonable thing, and actually comes out somewhat close to $1300 per year. (Of course there are areas in which that estimate may break.)
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by AlohaJoe »

dbr wrote:I think I have seen only one other published paper where the odds calculated were those of running out of money and still being alive. It was something by Milevsky, I think. He formulated his statistics in closed form rather than by simulation.
There are actually quite a few papers that use "stochastic lifespans" (i.e. not just assuming a 30-year retirement). They are probably still not quite the majority and they certainly haven't broken through to the hobbyist mindshare side of things.

There are many papers so this is just a random sampling of ones I can remember:
  • "Sustainable Real Spending From Pensions and Investments", Pye, 1999.
  • "A Sustainable Spending Rate Without Simulation", Milevsky, 2005. (This is probably the one you referred to above; he's written the most about the subject)
  • "Dynamic Retirement Planning", Stout & Mitchell, 2006
  • "An Age-Based, Three-Dimensional, Universal Distribution Model Incorporating Sequence Risk"; Frank, Mitchell, and Blanchett; 2007
  • "Joint Life Expectancy and the Retirement Distribution Period", Blanchett & Blanchett, 2008
  • "Optimal Withdrawal Strategy for Retirement Income Portfolios"; Blanchett, Kowara, Chen; 2012
  • "Measuring the Risk of Running Out of Money in Retirement", Gardner, 2013
  • "The Only Spending Rule Article You'll Ever Need", Waring & Siegel, 2014
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by B4Xt3r »

LAlearning wrote:Simple. If you have 3000 to allocate, then do that.
I can't do that and allocate money to downpayment of house/vehicle/savings for future kids. Unfortunately my current financial situation is one of competing interests between such factors.
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by AlohaJoe »

kehyler wrote:
LAlearning wrote:Simple. If you have 3000 to allocate, then do that.
I can't do that and allocate money to downpayment of house/vehicle/savings for future kids. Unfortunately my current financial situation is one of competing interests between such factors.
Blanchett's paper "The Value of Goals-Based Financial Planning" is another attempt to try to provide a framework for dealing with these kind of competing interests. It's not directly applicable but you might find it interesting to read nonetheless.
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by EnjoyIt »

Although I fully agree with looking at estimates for what a retirement might look like in the future and how to get there, at 27 you have no clue what your life will be like 10 years from now let alone 40 which is what you are planning for. I personally would not save the bare minimum, I would try and over-save in the early years and then adjust as time goes on. If you have the option of $3k/month to choose where to place today, then I would consider $18k into a 401k, $5,500 in a Roth Ira and the rest in taxable or home downpayment savings. I would put $0 into a 529 until you at least have your own retirement secured.

Here are my reasons:
1) You save more on taxes in a 401k than a 529
2) You can always withdraw money from the Roth to pay for college
3) If your retirement is secure when your kids are going to college you can just stop adding into the 401k then and divert all $3k a month towards college costs
4) Your kids may get scholarships
5) Your kids might decide not to go to college
6) You can take a loan for education and help your kids pay for it. You can not take a loan out for retirement expenses.
7) You may not want to work till full retirement age and may want to retire sooner. With no income your kids may get need based scholarships.

At the very least I would strongly consider my above suggestion for a few years to build up that nest egg and then reevaluate your priorities. Who knows, by then you may get some nice raises and be able to do everything.
Last edited by EnjoyIt on Sun Oct 09, 2016 10:49 am, edited 1 time in total.
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by Grt2bOutdoors »

kehyler wrote:
LAlearning wrote:Simple. If you have 3000 to allocate, then do that.
I can't do that and allocate money to downpayment of house/vehicle/savings for future kids. Unfortunately my current financial situation is one of competing interests between such factors.
The vast majority of people have competing interests. Focus on maxing out 401k if available, thar is $18k per year, next roth ira @$5,500 per year for you and spouse as you can. Don't get hung up on maxing all retirement options, you have to live......
"One should invest based on their need, ability and willingness to take risk - Larry Swedroe" Asking Portfolio Questions
dbr
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by dbr »

AlohaJoe wrote:
dbr wrote:I think I have seen only one other published paper where the odds calculated were those of running out of money and still being alive. It was something by Milevsky, I think. He formulated his statistics in closed form rather than by simulation.
There are actually quite a few papers that use "stochastic lifespans" (i.e. not just assuming a 30-year retirement). They are probably still not quite the majority and they certainly haven't broken through to the hobbyist mindshare side of things.

There are many papers so this is just a random sampling of ones I can remember:
  • "Sustainable Real Spending From Pensions and Investments", Pye, 1999.
  • "A Sustainable Spending Rate Without Simulation", Milevsky, 2005. (This is probably the one you referred to above; he's written the most about the subject)
  • "Dynamic Retirement Planning", Stout & Mitchell, 2006
  • "An Age-Based, Three-Dimensional, Universal Distribution Model Incorporating Sequence Risk"; Frank, Mitchell, and Blanchett; 2007
  • "Joint Life Expectancy and the Retirement Distribution Period", Blanchett & Blanchett, 2008
  • "Optimal Withdrawal Strategy for Retirement Income Portfolios"; Blanchett, Kowara, Chen; 2012
  • "Measuring the Risk of Running Out of Money in Retirement", Gardner, 2013
  • "The Only Spending Rule Article You'll Ever Need", Waring & Siegel, 2014
Thanks That's helpful.
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by pkcrafter »

I don't know your income, but 36k/year into retirement savings seems better than average. Suggested retirement funding is 10-15% of annual income. The money you put into tax-advantaged accounts when your young is worth more than what you put in later because of the power of compounding over time.

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.
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by B4Xt3r »

pkcrafter wrote:I don't know your income, but 36k/year into retirement savings seems better than average. Suggested retirement funding is 10-15% of annual income. The money you put into tax-advantaged accounts when your young is worth more than what you put in later because of the power of compounding over time.

Paul

Yeah, the simulation was for various savings rates that "aren't real." I guess what I am curious about is if people on the board here think that saving ~1300 per month is realistic for guaranteeing a 60k per year retirement. I'm trying to "gut check" my code against the opinions of people with far more experience than I do.
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by grayfox »

kehyler wrote:
pkcrafter wrote:I don't know your income, but 36k/year into retirement savings seems better than average. Suggested retirement funding is 10-15% of annual income. The money you put into tax-advantaged accounts when your young is worth more than what you put in later because of the power of compounding over time.

Paul

Yeah, the simulation was for various savings rates that "aren't real." I guess what I am curious about is if people on the board here think that saving ~1300 per month is realistic for guaranteeing a 60k per year retirement. I'm trying to "gut check" my code against the opinions of people with far more experience than I do.
Suppose you start saving for retirement at age 27, save $1300 per month ($15,600 pre year) for retirement until age 67 (40 years), and then start drawing $5000 per month ($60,000 per year) from age 67 to 97 (30 years).

I put together a quick Spreadsheet. It looks like that would require about 3% annual real return.

What is the probability that your TR2055 returns less than 3% after inflation? Intermediate-term bonds are offering about 0% real return right now. S&P500 stocks offers about 3.75% real. Constant 50/50 would have less than 2% expected return. I would think you would have to rely on mostly stocks to get at least 3% real return.

But you wrote guaranteeing a 60k per year retirement. Stocks offer no guarantee. Guaranteeing a future payment requires guaranteed assets, such as default-free government bonds. 30-year TIPS are 0.68%. My spreadsheet shows that with 0.68% real return, you would need to save more than twice as much, about $2960, for $60,000 per year.

Further, this is all just hypothetical. The real world has more unknowns and it would be prudent to have more of a margin for safety. E.g. how likely is it that someone will work and save for the full 40 years (age 27-67)? Many people are forced into retirement in their 50s. So it's likely that the accumulation phase will be less than 30 years, and withdrawal phase will last more than 40 years.
Last edited by grayfox on Tue Oct 11, 2016 9:51 am, edited 1 time in total.
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by miamivice »

See my comments in blue below.
EnjoyIt wrote: Here are my reasons:
1) You save more on taxes in a 401k than a 529

No, a 529 and a 401k are equal from a tax standpoint if you assume that your tax rates are the same at withdrawal as they are when you make the money. We don't know future tax rates nor have any clue how much the 27 year old will have to withdraw in retirement, so trying to estimate taxes in 40 years is a moot point.
2) You can always withdraw money from the Roth to pay for college

You can withdraw contributions but not earnings. The amount of contributions you need to pay for college without using the time value of money is a staggering amount. I don't consider IRA contributions a good way to save for college if someone wants to save for college.
3) If your retirement is secure when your kids are going to college you can just stop adding into the 401k then and divert all $3k a month towards college costs
4) Your kids may get scholarships true, although few kids get full ride (tuition + books + room and board) unless they're a star athlete or musical prodigy
5) Your kids might decide not to go to collegetrue
6) You can take a loan for education and help your kids pay for it. You can not take a loan out for retirement expenses.It's a true statement but overused. You can also borrow for a buying furniture but not retirement but most Bogleheads would advocate saving up and paying cash for furniture purchases
7) You may not want to work till full retirement age and may want to retire sooner. With no income your kids may get need based scholarships. You'll have income in retirement, even if you retiree early, unless you have 100% in Roth IRAs. You may have pension income, 401k withdrawal income, side job income, capital gains income, etc

At the very least I would strongly consider my above suggestion for a few years to build up that nest egg and then reevaluate your priorities. Who knows, by then you may get some nice raises and be able to do everything.
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by grayfox »

kehyler wrote:
pkcrafter wrote:I don't know your income, but 36k/year into retirement savings seems better than average. Suggested retirement funding is 10-15% of annual income. The money you put into tax-advantaged accounts when your young is worth more than what you put in later because of the power of compounding over time.

Paul

Yeah, the simulation was for various savings rates that "aren't real." I guess what I am curious about is if people on the board here think that saving ~1300 per month is realistic for guaranteeing a 60k per year retirement. I'm trying to "gut check" my code against the opinions of people with far more experience than I do.
Here is another way to look at it. Separate the problem into two parts: Accumulation Phase AP and Withdrawal Phase WP.

During AP, accumulate enough assets to fund the WP. How much assets do you need to accumulate for $60,000 income per year? (I am assuming that $60,000 is needed from portfolio, above Social Security Income, and no pension.)

First of all, it depends on the retirement age. Earlier retirement requires more assets. [Note: everything is in constant 2016 dollars.]
Check the price of an fixed $5,000 per month SPIA at various ages. From immediateannuities.com:

Code: Select all

MALE, Life Only, Not Inflation-Adjusted
58 $1,160,178 5.17% 19x
63 $1,029,957 5.83% 17x
68   $882,754 6.80% 15x
Unfortunately, immedateannuities doesn't give price for inflation-adjusted. You can get actual price quotes from Vanguard. I am going to estimate that an Inflation-Indexed SPIA pays out 2% less. So I'll estimate the price of $5,000 per month Inflation-Adjusted SPIA:

Code: Select all

MALE, Life Only, Inflation-Adjusted (EST)
58 $1,920,000 3.17% 32x
63 $1,560,000 3.83% 26x
68 $1,260,000 4.80% 21x
To get inflation-adjusted $60,000 per year for life , you will need to accumulate somewhere from $1.3 to $1.9 million, depending on retirement age.

Saving $1300 per month,
$1.9 million by age 57, would require about 8% real return. Forgetaboutit!
$1.3 million by age 67, would require about 3.5% real return. Possible with stocks.
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by itstoomuch »

good job OP. :idea:
Reasonable expectations IMO.
Of course you already know that as you get older the band of uncertainty gets narrower. :moneybag

BTW, got a job in CS-Human Factors? :annoyed :annoyed
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by B4Xt3r »

What is the probability that your TR2055 returns less than 3% after inflation? Intermediate-term bonds are offering about 0% real return right now. S&P500 stocks offers about 3.75% real. Constant 50/50 would have less than 2% expected return. I would think you would have to rely on mostly stocks to get at least 3% real return.
I invite your correction if I am wrong, but for instance, vanguard total stock, according to "Simba's backtesting spreadsheet" (available on bogleheads forum) is projected to have something like an average return of 10.3% total return, which adjusted for inflation becomes more like 7%. Such numbers are what my code uses, and it makes it more conservative as age goes on.

But you wrote guaranteeing a 60k per year retirement. Stocks offer no guarantee. Guaranteeing a future payment requires guaranteed assets, such as default-free government bonds. 30-year TIPS are 0.68%. My spreadsheet shows that with 0.68% real return, you would need to save more than twice as much, about $2960, for $60,000 per year.
My apologies, I did not mean guarantee in a strong sense like that. I meant guarantee in a more lose sense, as in 95% chance of success even when investing in stocks.
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by B4Xt3r »

itstoomuch wrote:good job OP. :idea:
Reasonable expectations IMO.
Of course you already know that as you get older the band of uncertainty gets narrower. :moneybag

BTW, got a job in CS-Human Factors? :annoyed :annoyed
Thanks. The band gets much narrower as you age. I tested it on someone with enough assets to retire at 60k per year, and the code returned basically a 95% chance of success independent of his savings rate (flat line) over the last few years of working.

(I don't have a CS job, I'm a physics graduate student.)
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by B4Xt3r »

Saving $1300 per month,
$1.9 million by age 57, would require about 8% real return. Forgetaboutit!
$1.3 million by age 67, would require about 3.5% real return. Possible with stocks.
The code does split into the accumulation and withdrawal phase as you suggest.

My code averages about 5% real return over the course of the 2055 target retirement date, which is I believe what it roughly should average based on Simbas backtesting spreadsheet. It also assumes that I retire at 67 +/- 2 years, live based with probabilities governed by CDC mortality curves, and that stocks/bonds do similar things as they have done since 1914.
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by B4Xt3r »

itstoomuch wrote:good job OP. :idea:
Reasonable expectations IMO.
Of course you already know that as you get older the band of uncertainty gets narrower. :moneybag

BTW, got a job in CS-Human Factors? :annoyed :annoyed
Thanks. The band gets much narrower as you age. I tested it on someone with enough assets to retire at 60k per year, and the code returned basically a 95% chance of success independent of his savings rate (flat line) over the last few years of working. Is there anything else that you think I should include in the code?

(I don't have a CS job, I'm a physics graduate student.)
Last edited by B4Xt3r on Tue Oct 11, 2016 5:11 pm, edited 1 time in total.
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by Meg77 »

I admire your planner mentality; I have a similar one and actually enjoy getting lost for hours in endless projections and variables. However, I recognize that for what it is - an interesting diversion - and realize that at my young age (early 30's) there is NO way to predict within any meaningful parameters what my financial life will look like in 10 years, much less in 40.

For starters, variables like market rates of return, inflation, savings rate, tax drag, income earned, and household expenses are impossible to predict over decades. But it's the dramatic changes in personal and family situation that make projections over such long periods even more pointless at the end of the day. Will you divorce, have kids, get disabled, have a cancer scare, win the lottery, start a business, care for a sick parent, stay home with kids, move to a more expensive city, change careers, get an inheritance?

In just the last 5 years I have bought a rental duplex, gotten laid off, gotten a new job with a big raise, met and married my husband (which doubled household income), bought a home with him and rented out my previous condo homestead, completed a major rooftop construction project (adding fire pit, kitchen, planters), had my company get acquired in a merger, considered a relocation to San Francisco, discovered our town home needs a new roof which will cost us around $50K or so (including demolishing and rebuilding the stuff we just built on top), seen hubby switch jobs twice (with nice raises both times), and so on. Five years. And none of this was predictable. I spend a lot less time now imagining the rest of my life.

I actually found a book I made at an internship in 2006 of my 10 year financial plan. It was very detailed and well thought out, complete with monthly budget projections, expected raises and promotions, and other milestones. It is funny and sweet to look back at it now, like a child or college student asserting her expectations must sound to parents.

All this to say, don't try to back into what you might need in the future. Save what you can every year, and then figure out how to live on whatever you end up with when you can't or don't want to work any more. I'd contribute enough to get the 401k match and max out a Roth IRA at minimum each year. Or pick a minimum like 15% of your gross income saved for retirement. Then in years when you can (maybe now?) pile on money on top of that. In years where you have a child or a layoff or move or buy a car, maybe you drop back down to your minimum. But in years when you get a bonus or big tax refund or raise or the kid graduates from daycare to public school - you can increase contributions.

Keep planning, but just don't get too attached to your plan. It's the act of planning that is valuable, not the numbers you come up with at the end of the day.
"An investment in knowledge pays the best interest." - Benjamin Franklin
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by itstoomuch »

Ah, that explains the "uncertainty" . You can probably explain the DowDogs but if you can do a cat, .... :oops:
Rev012718; 4 Incm stream buckets: SS+pension; dfr'd GLWB VA & FI anntys, by time & $$ laddered; Discretionary; Rentals. LTCi. Own, not asset. Tax TBT%. Early SS. FundRatio (FR) >1.1 67/70yo
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by furwut »

Meg77 wrote: In just the last 5 years ...
I think I need a rest. :shock:
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by malbecman »

Life happens when you are busy making other (retirement) plans.....

John Lennon with my own boglehead addition. :happy
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by B4Xt3r »

Meg77 wrote:I admire your planner mentality; I have a similar one and actually enjoy getting lost for hours in endless projections and variables.
Keep planning, but just don't get too attached to your plan. It's the act of planning that is valuable, not the numbers you come up with at the end of the day.
I appreciate the lengthy response, and I do recognize that the *actual* future may deviate significantly from my plans. That said, I am trying to make reasonable estimates of some known sources of variability for the purpose of retirement planning. My plan is to revisit this code once per year to see if I am on track to be able to retire at 60k per year if possible. (If possible, I'll save more.)
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by B4Xt3r »

itstoomuch wrote:Ah, that explains the "uncertainty" . You can probably explain the DowDogs but if you can do a cat, .... :oops:

I'm not sure I catch the intent of that comment.
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by AlohaJoe »

kehyler wrote:I invite your correction if I am wrong, but for instance, vanguard total stock, according to "Simba's backtesting spreadsheet" (available on bogleheads forum) is projected to have something like an average return of 10.3% total return, which adjusted for inflation becomes more like 7%. Such numbers are what my code uses, and it makes it more conservative as age goes on.
To be pedantic, the simba spreadsheet doesn't project anything. It simply tells you what the past was. There is a fairly broad consensus that US returns in the 20th century are anomalous for a number of reasons and are unlikely to be repeated going forward. If you're interested in reading more about that, Triumph of the Optimists was the book that started the argument. Many people think using world returns, instead of US returns is a better choice. That means an average real return of ~5.4%; nearly 2% less than US returns suggest.

There's the additional wrinkle that the current situation doesn't fit into the historical narrative very well. If you used historical numbers for Monte Carlo testing you would basically never get the sequence of interest rates that we've actually seen since 2003. There's a growing argument (by no means a consensus) that we will be in a low rate world for the next 2-3 decades.

Monte Carlo simulations tend to be sensitive to their inputs. If you're using "historical bonds" returns, when the next decade and possibly two is likely to to see historically low bond returns, it is questionable how helpful the results are.

And of course Monte Carlo tests are further complicated by the fact that many of our real portfolios are diversified in ways that make them not much like most Monte Carlo simulations. For instance, what if you have 30% developed international, 10% Emerging Markets, and 10% REITs? Did you test that...or just assume you have 100% US large cap?

Not saying that you shouldn't do a Monte Carlo test. They are useful. Just interpret them in light of the above.

One thing I'm unclear on is your $60,000 of income from your portfolio. Elsewhere you say that $1,300 a month ($15,000) is around 15-20% of your gross. That puts your income in the $75,000-$100,000 range. If that's the case, then you don't need $60,000 a year of income for your portfolio. You only need about $30,000. Social Security will provide the other 50% of your retirement needs.
itstoomuch
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by itstoomuch »

kehyler wrote:
itstoomuch wrote:Ah, that explains the "uncertainty" . You can probably explain the DowDogs but if you can do a cat, .... :oops:
I'm not sure I catch the intent of that comment.
Schrodinger's Cat. :oops:
http://www.iflscience.com/physics/schr% ... explained/
kinda like your retirement fund. If you ignore it; You won't know it's outcome. If you look, then you will discover that the Market is either Up or Down (alive) or flat (Dead). :mrgreen:
YMarketMV :greedy
Rev012718; 4 Incm stream buckets: SS+pension; dfr'd GLWB VA & FI anntys, by time & $$ laddered; Discretionary; Rentals. LTCi. Own, not asset. Tax TBT%. Early SS. FundRatio (FR) >1.1 67/70yo
EnjoyIt
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by EnjoyIt »

my comments in red
miamivice wrote:See my comments in blue below.
EnjoyIt wrote: Here are my reasons:
1) You save more on taxes in a 401k than a 529

No, a 529 and a 401k are equal from a tax standpoint if you assume that your tax rates are the same at withdrawal as they are when you make the money. We don't know future tax rates nor have any clue how much the 27 year old will have to withdraw in retirement, so trying to estimate taxes in 40 years is a moot point.


Just horrible. The thinking here is just wrong. Most people do not withdraw money out of a 401k at the same rates they deposit. A 529 will not give you the same tax benefits. LIvesoft showed an excellent example of living on $100k/yr and paying $0 in taxes. Also, If we have no idea what the future taxes will be, then we use todays numbers and hope for the best. Today a 401k is a better tax saving vehicle as compared to the 529.


2) You can always withdraw money from the Roth to pay for college

You can withdraw contributions but not earnings. The amount of contributions you need to pay for college without using the time value of money is a staggering amount. I don't consider IRA contributions a good way to save for college if someone wants to save for college.


Correct, this is a good backup plan if you need more money to help pay for college if you can't pay for out of future income, future scholarships, and potential future school loans


3) If your retirement is secure when your kids are going to college you can just stop adding into the 401k then and divert all $3k a month towards college costs.

No comment here? Seams like a damn good option for many people with a secure retirement.

4) Your kids may get scholarships true, although few kids get full ride (tuition + books + room and board) unless they're a star athlete or musical prodigy

Correct, this is just another added reason to not build up a 529 in leu of a 401k. They may get a partial scholarship. Not to mention that kids don't have to go to $50k/yr private schools. There are plenty of amazing schools at a fraction of the cost.

5) Your kids might decide not to go to collegetrue

6) You can take a loan for education and help your kids pay for it. You can not take a loan out for retirement expenses.It's a true statement but overused. You can also borrow for a buying furniture but not retirement but most Bogleheads would advocate saving up and paying cash for furniture purchases

Exactly, so save up for your retirement so that you don''t need to take out a loan to fix a busted couch. If you retirement is secure, you can help your kids pay off their college debt. If your retirement is not secure then you will be damn glad your kids took on that debt instead of you having to sacrifice your retirement.

7) You may not want to work till full retirement age and may want to retire sooner. With no income your kids may get need based scholarships. You'll have income in retirement, even if you retiree early, unless you have 100% in Roth IRAs. You may have pension income, 401k withdrawal income, side job income, capital gains income, etc

This all depends how you play things out and what your future holds. I would still not divert money from my retirement today to fund a 529. Maybe in the future when accounts are decent then consider saving up for a kids education. Either way a family of 2 with 2 dependents can be at a very low tax bracket in retirement

At the very least I would strongly consider my above suggestion for a few years to build up that nest egg and then reevaluate your priorities. Who knows, by then you may get some nice raises and be able to do everything.
I see all too often families sacrifice everything for the kids. "Nothing is too good for the kids." The kids must have all the best we can afford. Yes, our kids are important, but I promise you that most kids do just fine without going to private schools, multiple overpriced extra curricular activities, and special tutors/instructors. Our kids would actually be much better off if mom and dad are around to teach them values. Our kids will be better off when they don't have to worry about mom and dad because they can't take care of themselves. Our kids will be better off if mom and dad have the wealth and comfort to retire and be around for the grandkids. Sometimes we get so enamored into trying to accomplish all these things for our kids that we get lost in the forest and loose site of what is truly valuable and important.
/end soup box
A time to EVALUATE your jitters: | viewtopic.php?p=1139732#p1139732
grayfox
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by grayfox »

AlohaJoe wrote:
kehyler wrote:I invite your correction if I am wrong, but for instance, vanguard total stock, according to "Simba's backtesting spreadsheet" (available on bogleheads forum) is projected to have something like an average return of 10.3% total return, which adjusted for inflation becomes more like 7%. Such numbers are what my code uses, and it makes it more conservative as age goes on.
To be pedantic, the simba spreadsheet doesn't project anything. It simply tells you what the past was. There is a fairly broad consensus that US returns in the 20th century are anomalous for a number of reasons and are unlikely to be repeated going forward. If you're interested in reading more about that, Triumph of the Optimists was the book that started the argument. Many people think using world returns, instead of US returns is a better choice. That means an average real return of ~5.4%; nearly 2% less than US returns suggest.

There's the additional wrinkle that the current situation doesn't fit into the historical narrative very well. If you used historical numbers for Monte Carlo testing you would basically never get the sequence of interest rates that we've actually seen since 2003. There's a growing argument (by no means a consensus) that we will be in a low rate world for the next 2-3 decades.

Monte Carlo simulations tend to be sensitive to their inputs. If you're using "historical bonds" returns, when the next decade and possibly two is likely to to see historically low bond returns, it is questionable how helpful the results are.

And of course Monte Carlo tests are further complicated by the fact that many of our real portfolios are diversified in ways that make them not much like most Monte Carlo simulations. For instance, what if you have 30% developed international, 10% Emerging Markets, and 10% REITs? Did you test that...or just assume you have 100% US large cap?

Not saying that you shouldn't do a Monte Carlo test. They are useful. Just interpret them in light of the above.

One thing I'm unclear on is your $60,000 of income from your portfolio. Elsewhere you say that $1,300 a month ($15,000) is around 15-20% of your gross. That puts your income in the $75,000-$100,000 range. If that's the case, then you don't need $60,000 a year of income for your portfolio. You only need about $30,000. Social Security will provide the other 50% of your retirement needs.
:thumbsup Very good points made. Past is not a projection future. U.S. anomaly. Unusually low interest rates.

:idea: Generally, the future is unknown, so be prepared for almost anything. A good plan will succeed in many possible future states of the world, whether we experience high returns or low returns.
grayfox
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by grayfox »

Here are some numbers I was considering. Suppose you are age 27 and require inflation-adjusted $60,000 per year income for life. To make it simple, let's say for 80 years, until age 107. [All numbers in 2016 dollars.]

If you had 0% real return (RR), to retire at age 27, you would need 80*$60,000 = $4,800,000.
Every year you can delay retiring, lowers the amount needed by $60,000.
So if you retire in 40 years at age 67, you would only need 40*$60,000 = $2,400,000

Right now 30-year TIPS is yielding 0.68% real, so to retire at age 27, you would need $3,692,721
Retire at age 67, $2,095,094

If you had a riskier portfolio with RR=2%, at 27 you need $2,384,671
Retire at age 67, $1,641,330

The higher the real return, the less money you need to retire.
Also, the older you are, the less money you need to fund the remaining years.

:idea: If you check your portfolio balance every year, you could determine when you have enough to retire at some age.
E.g. Suppose at age 57, your balance >= $2,095,094.
Assuming RR=0.68, you have enough to retire at age 67 without making additional contributions.
Your retirement would be fully funded.

:arrow: Set a goal to have a fully-funded retirement, in order to guarantee retirement income. I would use the highest savings rate that I could. Start with 15% or 20%. Increase your savings rate with each raise in salary. I would also take risk and invest mostly in stocks for the chance of higher returns.
Last edited by grayfox on Wed Oct 12, 2016 10:51 am, edited 3 times in total.
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Taylor Larimore
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"If You Can"

Post by Taylor Larimore »

I am just getting started (~27) in the investing world, and am trying to figure out a reasonable monthly savings rate to secure my own retirement.
David:

Financial expert, Bill Bernstein, has a short on-line book written specifically for Millennials. This is how he answers your question:
Would you believe me if I told you that there's an investment strategy that a seven-year-old could understand, will take you fifteen minutes of work per year, outperform 90 percent of finance professionals in the long run, and make you a millionaire over time?

Well it is true, and here it is: Start by saving 15 percent of your salary at age 25 into a 401(k) plan, an IRA, or a taxable account (or all three). Put equal amounts of the 15 percent into just three different mutual funds:

* A U.S. total stock Market index fund

* An international total stock market index fund

* A U.S. total bond market index fund
https://www.etf.com/docs/IfYouCan.pdf

Best wishes
Taylor
"Simplicity is the master key to financial success." -- Jack Bogle
miamivice
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by miamivice »

EnjoyIt wrote: I see all too often families sacrifice everything for the kids. "Nothing is too good for the kids." The kids must have all the best we can afford. Yes, our kids are important, but I promise you that most kids do just fine without going to private schools, multiple overpriced extra curricular activities, and special tutors/instructors. Our kids would actually be much better off if mom and dad are around to teach them values. Our kids will be better off when they don't have to worry about mom and dad because they can't take care of themselves. Our kids will be better off if mom and dad have the wealth and comfort to retire and be around for the grandkids. Sometimes we get so enamored into trying to accomplish all these things for our kids that we get lost in the forest and loose site of what is truly valuable and important.
Whoa, you sure go between a simple savings for college in a 529 to private schools, expensive extracurricular activities, and special tutors.

All I'm trying to say is that a 529 makes for a smart investment and the tax shelter is a nice bonus. I set aside a small amount ($33,000) 6 years ago. It's grown handsomely, tax free. I'm confident that as my coworkers who have kids in college whine about the cost of paying college and talk about the things they'd like buy but can't because of the cost of college, I'll enjoy those years by doing the things that my wife and I would like to do (ski trips, Hawaiian vacations, etc) using cash flow while using our 529 account to pay for college.

I also have a well funded retirement. Not 100% funded but well along the way.
EnjoyIt
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by EnjoyIt »

miamivice wrote:
EnjoyIt wrote: I see all too often families sacrifice everything for the kids. "Nothing is too good for the kids." The kids must have all the best we can afford. Yes, our kids are important, but I promise you that most kids do just fine without going to private schools, multiple overpriced extra curricular activities, and special tutors/instructors. Our kids would actually be much better off if mom and dad are around to teach them values. Our kids will be better off when they don't have to worry about mom and dad because they can't take care of themselves. Our kids will be better off if mom and dad have the wealth and comfort to retire and be around for the grandkids. Sometimes we get so enamored into trying to accomplish all these things for our kids that we get lost in the forest and loose site of what is truly valuable and important.
Whoa, you sure go between a simple savings for college in a 529 to private schools, expensive extracurricular activities, and special tutors.

All I'm trying to say is that a 529 makes for a smart investment and the tax shelter is a nice bonus. I set aside a small amount ($33,000) 6 years ago. It's grown handsomely, tax free. I'm confident that as my coworkers who have kids in college whine about the cost of paying college and talk about the things they'd like buy but can't because of the cost of college, I'll enjoy those years by doing the things that my wife and I would like to do (ski trips, Hawaiian vacations, etc) using cash flow while using our 529 account to pay for college.

I also have a well funded retirement. Not 100% funded but well along the way.
ahhh, You have a well funded retirement and did not forgo it to save for your kids education. That is very different than those who choose to minimally save in a 401k to instead put away money for their kids education. Congrats to you and your successful planning :beer
A time to EVALUATE your jitters: | viewtopic.php?p=1139732#p1139732
Topic Author
B4Xt3r
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Joined: Thu Sep 29, 2016 5:56 am

Re: "If You Can"

Post by B4Xt3r »

Taylor Larimore wrote:
I am just getting started (~27) in the investing world, and am trying to figure out a reasonable monthly savings rate to secure my own retirement.
David:

Financial expert, Bill Bernstein, has a short on-line book written specifically for Millennials. This is how he answers your question:
Would you believe me if I told you that there's an investment strategy that a seven-year-old could understand, will take you fifteen minutes of work per year, outperform 90 percent of finance professionals in the long run, and make you a millionaire over time?

Well it is true, and here it is: Start by saving 15 percent of your salary at age 25 into a 401(k) plan, an IRA, or a taxable account (or all three). Put equal amounts of the 15 percent into just three different mutual funds:

* A U.S. total stock Market index fund

* An international total stock market index fund

* A U.S. total bond market index fund
https://www.etf.com/docs/IfYouCan.pdf

Best wishes
Taylor
Thanks for chiming in. I have read that pdf (the first time through, not the second yet). 15% of my salary actually comes out to be roughly what the code I wrote predicts as well. I'll plan on trying to put away roughly that amount then too (in low-cost index funds if possible). Glad to have them agree somewhat reasonably.

Thanks,

-David
Topic Author
B4Xt3r
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by B4Xt3r »

itstoomuch wrote:
kehyler wrote:
itstoomuch wrote:Ah, that explains the "uncertainty" . You can probably explain the DowDogs but if you can do a cat, .... :oops:
I'm not sure I catch the intent of that comment.
Schrodinger's Cat. :oops:
http://www.iflscience.com/physics/schr% ... explained/
kinda like your retirement fund. If you ignore it; You won't know it's outcome. If you look, then you will discover that the Market is either Up or Down (alive) or flat (Dead). :mrgreen:
YMarketMV :greedy
Ah, got it now.
Topic Author
B4Xt3r
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by B4Xt3r »

grayfox wrote:Here are some numbers I was considering. Suppose you are age 27 and require inflation-adjusted $60,000 per year income for life. To make it simple, let's say for 80 years, until age 107. [All numbers in 2016 dollars.]

If you had 0% real return (RR), to retire at age 27, you would need 80*$60,000 = $4,800,000.
Every year you can delay retiring, lowers the amount needed by $60,000.
So if you retire in 40 years at age 67, you would only need 40*$60,000 = $2,400,000

Right now 30-year TIPS is yielding 0.68% real, so to retire at age 27, you would need $3,692,721
Retire at age 67, $2,095,094

If you had a riskier portfolio with RR=2%, at 27 you need $2,384,671
Retire at age 67, $1,641,330

The higher the real return, the less money you need to retire.
Also, the older you are, the less money you need to fund the remaining years.

:idea: If you check your portfolio balance every year, you could determine when you have enough to retire at some age.
E.g. Suppose at age 57, your balance >= $2,095,094.
Assuming RR=0.68, you have enough to retire at age 67 without making additional contributions.
Your retirement would be fully funded.

:arrow: Set a goal to have a fully-funded retirement, in order to guarantee retirement income. I would use the highest savings rate that I could. Start with 15% or 20%. Increase your savings rate with each raise in salary. I would also take risk and invest mostly in stocks for the chance of higher returns.
Yeah, and the code should predict a "fully-funded" retirement as basically a flat line in the upper 90% success rate. For example, I put in an initial balance 4.8M, and a retirement age of 30, with a 60k per year deduction and the code basically could not construct a future in which it predicted running out of money. That is a "fully-funded retirement" according to my code.
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B4Xt3r
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by B4Xt3r »

To be pedantic, the simba spreadsheet doesn't project anything. It simply tells you what the past was. There is a fairly broad consensus that US returns in the 20th century are anomalous for a number of reasons and are unlikely to be repeated going forward. If you're interested in reading more about that, Triumph of the Optimists was the book that started the argument. Many people think using world returns, instead of US returns is a better choice. That means an average real return of ~5.4%; nearly 2% less than US returns suggest.
I understand that past returns do not predict future returns, though until I am presented with a better way estimate future returns, past returns seem to be the best way to plan. I must also be missing something Simba spreadsheet has a 50 year return on "total international stock," VGTSX as averaging 12% (so RR of ~9%). Where does the 5.4% RR number you quote come from?
There's the additional wrinkle that the current situation doesn't fit into the historical narrative very well. If you used historical numbers for Monte Carlo testing you would basically never get the sequence of interest rates that we've actually seen since 2003. There's a growing argument (by no means a consensus) that we will be in a low rate world for the next 2-3 decades.

Monte Carlo simulations tend to be sensitive to their inputs. If you're using "historical bonds" returns, when the next decade and possibly two is likely to to see historically low bond returns, it is questionable how helpful the results are.
True, but the last decade is fed into the code and it as such has some probability to be selected as occurring in the future. If the next 2-3 decades are indeed abnormally low, then this will not be predicted by my current code.
And of course Monte Carlo tests are further complicated by the fact that many of our real portfolios are diversified in ways that make them not much like most Monte Carlo simulations. For instance, what if you have 30% developed international, 10% Emerging Markets, and 10% REITs? Did you test that...or just assume you have 100% US large cap?
This I accommodated, I coded in the glide path of the vanguard 2055 and its four underlying funds.
Not saying that you shouldn't do a Monte Carlo test. They are useful. Just interpret them in light of the above.

One thing I'm unclear on is your $60,000 of income from your portfolio. Elsewhere you say that $1,300 a month ($15,000) is around 15-20% of your gross. That puts your income in the $75,000-$100,000 range. If that's the case, then you don't need $60,000 a year of income for your portfolio. You only need about $30,000. Social Security will provide the other 50% of your retirement needs.
I understand that the code is a crude approximation, and it'll only be trusted as such. The code came about as trying to do a better than many online calculator that assume a fixed age of death, fixed return, fixed inflation, fixed retirement age, and did not accommodate any unemployment throughout my career. I varied those the best way that I knew how, with the result above. Given that additionally, the result above for 95% success is also within the range of 15-20% that people quote for someone in their mid-twenties, I think that it has served its purpose somewhat well.

Further thoughts?
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B4Xt3r
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by B4Xt3r »

furwut wrote:Projections far into the future are fun but I don't know how much reliance we should put on them. I prefer a simpler approach of suggesting one should save 15 - 25% of gross income.

You might find Wade Pfau's paper on Minimum Savings Rate (MSR) interesting.
Safe Savings Rates: A New Approach to Retirement Planning over the Life Cycle

:happy
BTW, I read Pfau's paper, and it was interesting and helpful. There are a few things that my code does that are *more* realistic than his study. First he assumes a fixed accumulation and retirement duration. These are of course unknowable - that is why I randomly varied my retirement somewhere in my late 60s, and then also varied my age of death according to CDC mortality curves. Second, he assumed that you have a constant salary throughout life, this is a major assumption which most people do not experience, and I suspect, causes a significant underestimate in his savings rate. For example, my savings rate increased by ~3.3% (using his definition) when I allowed for 8% of my working career would be spent unemployed and trying to find a new job (all the while living off of savings).
AlohaJoe
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by AlohaJoe »

kehyler wrote:
To be pedantic, the simba spreadsheet doesn't project anything. It simply tells you what the past was. There is a fairly broad consensus that US returns in the 20th century are anomalous for a number of reasons and are unlikely to be repeated going forward. If you're interested in reading more about that, Triumph of the Optimists was the book that started the argument. Many people think using world returns, instead of US returns is a better choice. That means an average real return of ~5.4%; nearly 2% less than US returns suggest.
I understand that past returns do not predict future returns, though until I am presented with a better way estimate future returns, past returns seem to be the best way to plan. I must also be missing something Simba spreadsheet has a 50 year return on "total international stock," VGTSX as averaging 12% (so RR of ~9%). Where does the 5.4% RR number you quote come from?
It comes from the Triumph of the Optimists book I mentioned above. The authors -- Dimson, Marsh, and Staunton -- have put together what is widely regarded as the best historical dataset. It is now a for-profit company called Global Financial Data which has extended their work. In many cases they have historical information going back to the mid-1800s for most countries.

Their raw data is not freely available (which is why it can't be used in the simba spreadsheet) but summaries of it are, in the Credit Suisse Global Investment Returns Yearbook series. If you google that you'll find them.
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B4Xt3r
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Re: Montecarlo simulation for retirement savings rate, second post of a young investor

Post by B4Xt3r »

Projections far into the future are fun but I don't know how much reliance we should put on them. I prefer a simpler approach of suggesting one should save 15 - 25% of gross income.

You might find Wade Pfau's paper on Minimum Savings Rate (MSR) interesting.
Safe Savings Rates: A New Approach to Retirement Planning over the Life Cycle

:happy
As a check, I also ran my simulation the Pfau's conditions, namely a fixed 30 year accumulation, a fixed 30 year retirement, and no unemployment with goal of replacing 50% of salary. At a savings rate of 17% (minimum savings rate), my code predicted a success rate of ~90%, so I'd call it similar. (A couple of differences between his assumptions and mine are that I'm modeling a vanguard 2055 target retirement fund, and I haven't put in correlations between the four funds inside it yet.)
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