longinvest wrote:siamond wrote:Well, here you are, you gave me the answer. Year after year, just add the inflation-equivalent to the 'heirs money", and any return beyond that should be added/removed from the capital that is used for the VPW formula. The 'heirs money' will be protected, and any extra return (or possible loss) will be used for my own benefit...
If I was to adopt such a strategy, I would be careful not to invest the heirs money into the markets. I would keep this money safe in CDs or Money Market Funds (MMF).
I would invest the rest and apply VPW on it. If, any year, interests don't cover inflation on the heirs money, I would take off the necessary amount from the annual VPW payment and add it into CDs/MMF.
The reason I wouldn't invest the heirs money is that, otherwise, I would be back into implementing a constant-dollar-withdrawal-like strategy (with all its sequence of return problems) for trying to keep the heirs money up to a constant-dollar balance.
Alternately, if you don't mind your heirs waiting, just put this money into TIPS (but not into TIPS funds). This way, your heirs will assuredly get their money if they wait until maturity. No risk.
On a personal note, I am a believer in giving the money while I am alive. As a primitive risk management strategy, I try not to create situations where I am more valuable to others dead than alive.
I would tend to agree on the personal note, but maybe not 100% of it (personal view). Anyhoo, this only re-inforces the point of having a portion of (inflation-adjusted) capital which is 'reasonably' protected. Whether you give after 10 years, 30 years or after your death, same thing. Also please remember that I was asking for such 'protected capital' concept, not only for heirs, but also to protect scenarios past life expectancy (which MAY change quite a lot 20 years from now, who knows), and maybe a safety cushion for some form of LTC needs too. Without such a way of protecting a slice of one's portfolio, I fear that VPW is very unpractical.
Now (and I realize it depends on personal goals), I certainly didn't mean to leave the 'protected capital' on a low-return/low-risk investment. This would seem quite a waste and a disservice to the heirs, notably if you enjoy a long retirement (or time period before you give most of it). It should stay on the regular AA, like the rest, and then you adjust stocks/bonds portfolio as you see fit. And when you decide to give, you reverse-balance on the whole thing.
So here is what I was thinking. Basic idea is to start from a portfolio of say $1M, and have a fixed amount you want to protect, say $400k. Then let the $400k evolve with the inflation (hence stay protected), and use anything beyond it with your nifty VPW algorithm. Anything beyond it means:
1. the way the $1M minus $400k part of the portfolio evolves based on market returns and the annual withdrawals
2. the returns of the $400k beyond the inflation (in most years, this is a positive return, but it can turn into a negative return)
Since your algorithm neatly adjusts itself to whatever current value of the portfolio to consider, it can be applied to the sum of #1 and #2. One could also factor in occasional lump sum cash inflows, by the way, which is really cool.
I actually did a model of such 'Protected VPW' idea this morning, this is real easy (after a good night of sleep!), and it seems to work fine. The hypersensitivity of the overall model to the market gyrations continues to make me wary, but that's another discussion... Give it a try!