Variable Percentage Withdrawal (VPW)

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longinvest
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Re: Variable Percentage Withdrawal (VPW)

Post by longinvest » Wed Mar 21, 2018 1:25 pm

This topic is already very long with over 700 posts. I think that it would be best to hold ADD related discussions in its own topic: Accumulation-Dynamic Decumulation Strategy
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Re: Variable Percentage Withdrawal (VPW)

Post by LadyGeek » Wed Mar 21, 2018 1:58 pm

^^^ I have moved the relevant posts to Accumulation-Dynamic Decumulation Strategy.
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Re: Variable Percentage Withdrawal (VPW)

Post by longinvest » Mon May 21, 2018 7:01 am

In another topic, I explained (yet again) that it would be a bad idea to use valuations to determine VPW's withdrawal rates:
longinvest wrote:
Sun May 20, 2018 7:00 pm
DaufuskieNate wrote:
Sun May 20, 2018 6:35 pm
There is no reason VPW can't use valuation metrics to determine initial withdrawal rates. Returns are a variable that can be defined in the VPW model.
There's a good reason not to use valuation metrics to determine initial withdrawal rates; using valuations to set withdrawal rates would lead to a "sell less when high, sell more when low" behavior. That would be a pretty bad investing approach.

The VPW table doesn't change with "valuation metrics".

The volatility of total retirement income (e.g. portfolio withdrawals + stable lifelong non-portfolio income) is best controlled by the ratio of stable lifelong non-portfolio income and the ratio of stocks and bonds in the portfolio. It's futile to try predicting future long-term returns using simplistic metrics. It's best to accept that we don't know future returns and plan accordingly.
I also explained that VPW doesn't attempt to predict future returns; that its fixed internal growth trend aims to simply be lower than high returns and higher than low returns:
longinvest wrote:
Sun May 20, 2018 11:53 pm
AlohaJoe wrote:
Sun May 20, 2018 9:23 pm
VPW assumes that future stock returns will be 5% real and bonds will return 1.8% real, so of course it will pull a lot more.
This is false. VPW doesn't assume that future stocks returns will be 5% real and future bonds returns will be 1.8% real.

VPW needs fixed internal growth trends for stocks and bonds to avoid "sell less when high, sell more when low" behavior.

A way to understand a growth trend is to view it as a growth rate that is lower than high returns and higher than low returns. In other words, when stocks have just crashed, their future growth should likely be higher than the stocks growth trend. Similarly, when stocks are in a bubble, their future growth should likely be lower than the stocks growth trend. A growth trend is just an imprecise wild-ass guess (WAG). Why 5% real and 1.8% real? Because nobody was able to provide me with better WAGs than using long-term historical world-wide stocks and bonds returns since 1900.
Finally, I explained how ignoring valuations and simply applying VPW on a balanced portfolio leads to good investing behavior:
longinvest wrote:
Mon May 21, 2018 12:25 am
The best time to sell stocks is when they are in a bubble, and the worst time is just after they've crashed. Trying to smooth withdrawals by selling less (lower percentage) when stocks are expensive during a bubble is equivalent to invest the non-withdrawn money into bubbly stocks. After the crash, this additional money will have melted along with stocks. Withdrawing more (higher percentage) after a crash hurts a portfolio at the worst time.

One robust way to protect money, in a stocks bubble, is to put it into bonds (of average short or intermediate duration, to limit volatility). Doing this perfectly is a problem, though; it would require knowing when stocks are in a bubble; unfortunately we only know after the fact.

Fortunately, the Bogleheads investment philosophy provides a solution. It suggests to never try timing the market, but to adopt a strategic asset allocation instead (like a 50/50 stocks/bonds allocation). This results in a good-enough portfolio and leads to sell more stocks when they are "expensive", and sell less stocks when they are "cheap" when rebalancing to keep the portfolio's asset allocation on target (when using VPW with a fixed growth trend, or when using the constant-percentage withdrawal method).
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Re: Variable Percentage Withdrawal (VPW)

Post by 2015 » Mon May 21, 2018 1:41 pm

longinvest, your ongoing patience in providing thorough explanations regarding VPW are most appreciated, and remain among one of the more useful and robust tools I've acquired from this forum. I've positioned myself such that I can play the investing metagame of being able to ignore valuations talk of all kinds (hat tips to Warren Buffet, Jeff Bezos, among others).

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Re: Variable Percentage Withdrawal (VPW)

Post by jaj2276 » Thu May 24, 2018 9:01 am

Is there an updated spreadsheet with 2016/2017 returns? I feel awful asking for it because the spreadsheet has been soooo useful to me already (I haven't used it for retirement but to help me with my donor advisor fund).

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Re: Variable Percentage Withdrawal (VPW)

Post by icetrap » Fri May 25, 2018 7:45 am

jaj2276 wrote:
Thu May 24, 2018 9:01 am
Is there an updated spreadsheet with 2016/2017 returns? I feel awful asking for it because the spreadsheet has been soooo useful to me already (I haven't used it for retirement but to help me with my donor advisor fund).
I've partially updated the returns for 2016-2017 in the accumulation-dynamic decumulation spreadsheet (only the US rates update).

You can get the new rates directly from Vanguard using the following two links and click display annually. Use the "Total return by NAV" :
US stock proxy : VTSMX

International stock proxy : VGTSX

US bond proxy : VBMFX

The advantage here compare to using directly the index is that it reflects the management cost that you would not be able to escape. Depending on your need for the donor advisor fund, you may want to be careful to disclose that a management fee is already included.

I hope this helps

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Re: Variable Percentage Withdrawal (VPW)

Post by LadyGeek » Fri May 25, 2018 7:54 am

icetrap wrote:
Fri May 25, 2018 7:45 am
I've partially updated the returns for 2016-2017 in the accumulation-dynamic decumulation spreadsheet (only the US rates update).
Here is the wiki link: Accumulation-dynamic decumulation
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Re: Variable Percentage Withdrawal (VPW)

Post by longinvest » Fri May 25, 2018 8:00 am

I'll be posting an updated spreadsheet soon, hopefully this weekend.

VPW's backtesting spreadsheet already uses real-fund (after-fee) returns for year when such information is available (e.g. for data extracted from the Simba spreadsheet including VTSMX, VBMFX, and VGTSX actual returns).

All data sources (sometimes indirect, e.g. Simba) are provided in the spreadsheet.
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Re: Variable Percentage Withdrawal (VPW)

Post by longinvest » Sun May 27, 2018 8:29 am

I have uploaded a new version of the VPW backtesting spreadsheet.

As usual, you can find the download links on the Bogleheads wiki Variable percentage withdrawal page.

Changes:
  • Added 2016 return data.
  • Added 2017 return data.
  • Started directly collecting US historical returns and inflation data (for 2015 and later) based on NAV returns of Vanguard ETFs (VTI, VXUS, and BND) and the Bureau of Labor Statistics historical CPI-U data.
Nothing was changed in the presentation.

As usual comments are welcome.

Enjoy!
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Re: Variable Percentage Withdrawal (VPW)

Post by jaj2276 » Mon May 28, 2018 9:27 am

longinvest wrote:
Sun May 27, 2018 8:29 am

[*]Started directly collecting US historical returns and inflation data (for 2015 and later) based on NAV returns of Vanguard ETFs (VTI, VXUS, and BND) and the Bureau of Labor Statistics historical CPI-U data.[/list]
What is the reason for this (and why start in 2015)?

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Re: Variable Percentage Withdrawal (VPW)

Post by longinvest » Mon May 28, 2018 11:01 am

Jaj2276,
jaj2276 wrote:
Mon May 28, 2018 9:27 am
longinvest wrote:
Sun May 27, 2018 8:29 am

[*]Started directly collecting US historical returns and inflation data (for 2015 and later) based on NAV returns of Vanguard ETFs (VTI, VXUS, and BND) and the Bureau of Labor Statistics historical CPI-U data.[/list]
What is the reason for this (and why start in 2015)?
This is a good question. To answer, I have to provide some context.

In July 2014, Vanguard Canada launched the first all-in-one Ex-Canada Stock ETF (VXC). The historical data source I had been using, until then, to fill the Canadian data of the VPW spreadsheet provides historical returns for US, EAFE, and emerging markets separately (no all-in-one "international" returns). Note, too, it only provided index returns, not real-life fund or ETF returns.

I've decided to start collecting myself real-life ETF returns for the three assets (Canadian stocks, Ex-Canada stocks, and Canadian bonds) using the returns of the appropriate total-market index ETFs offered by Vanguard Canada (VCN, VXC, and VAB). As 2015 is the first full-year in which all three ETFs existed, it is the year for which I started collecting the data myself.

Now, as I'm already doing the collection of Canadian return data based on 3 ETFs, I've decided to do the same with US data based on the three appropriate Vanguard ETFs (VTI, VXUS, and BND). It's very easy to do and it reduces the dependence of the VPW backtesting spreadsheet on indirect data sources for recent data. This is more transparent for users who want to double-check the data. I could try to go back a few additional years, as long as the three US ETFs existed. I might do that in a future version. For now, I just started with the same year as the Canadian data collection.
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Re: Variable Percentage Withdrawal (VPW)

Post by cap396 » Tue Jul 17, 2018 9:42 am

Question: On the "Table" tab of the VPW document, the Long-Term Real Growth Trends is set to 5.0% for stocks and 1.8% for bonds, and there is a note that this is based on data from Credit Suisse Global Investment Returns Yearbook 2016. When I look at the Credit Suisse Global Investment Returns Yearbook 2018, the numbers have been updated to 5.2% and 2.0% respectively. Should those values be changed on the "Table" tab? Doing this changes the withdrawal rates (slightly).

Sorry if I'm totally off here; I'm still learning how all of this works.

(I'm looking at page 37 of this document: https://www.credit-suisse.com/media/ass ... y-2018.pdf)

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Re: Variable Percentage Withdrawal (VPW)

Post by longinvest » Fri Jul 20, 2018 8:43 pm

cap396 wrote:
Tue Jul 17, 2018 9:42 am
Question: On the "Table" tab of the VPW document, the Long-Term Real Growth Trends is set to 5.0% for stocks and 1.8% for bonds, and there is a note that this is based on data from Credit Suisse Global Investment Returns Yearbook 2016. When I look at the Credit Suisse Global Investment Returns Yearbook 2018, the numbers have been updated to 5.2% and 2.0% respectively. Should those values be changed on the "Table" tab? Doing this changes the withdrawal rates (slightly).

Sorry if I'm totally off here; I'm still learning how all of this works.

(I'm looking at page 37 of this document: https://www.credit-suisse.com/media/ass ... y-2018.pdf)
It's only is a wild-ass guess such that good returns are higher and bad returns are lower. So, I see no need to constantly change it. See this earlier post for a more detailed explanation.

There's no need for false precision. Changes in annualized historical returns over a period starting in 1900 and spanning more than a century are tiny. Updating the trends from year to year would mainly affect the rounding of percentages in the VPW table and lead to minor changes. For one thing, I don't want to give people the impression that the table changes over time. For another, I don't want them to think that the table is of high precision; it's not.

I insist: the table isn't meant to be used with ultimate precision. If the VPW table indicates 4.8%, taking 5% won't lead to premature portfolio depletion, and taking 4.5% won't lead to dying with a gigantic pile of unspent money. The percentages are the result of a calculation based on a wild-ass guess; they inherit the "wild-ass guess" property. So, they should be used as a guide to indicate approximately how much of the portfolio should be withdrawn today to pay taxes and fund the upcoming year's expenses given the current portfolio balance, the target asset allocation for the upcoming year, and the current age of the retiree.

Whether the specific percentage in the VPW table is 4.8% or 4.9% isn't important. These are rounded values resulting from a calculation based on a wild-ass guess. What's important is to understand that it wouldn't be sustainable to withdraw 7% or 8% instead of 4.8%, and keep over-withdrawing like that regularly. I've kept one decimal of precision (after being rightfully chastised by forum member Rodc, early in this thread, for the false precision of using the default two decimals of Microsoft Excel/Libreoffice Calc) so that annual percentage adjustments remain small. The difference between 4% and 5% of a portfolio is big; the difference between 4.4% and 4.5% is much smaller and leads to a more reasonable annual adjustment.

On a technical level, in the past, Credit Suisse Global Investment Returns Yearbooks provided a "growth of 1$" value since 1900. The newer free Summary editions since year 2017 don't provide this anymore. The cell's formula (based on the last of the older yearbooks) takes the 116th root of final growth value (e.g. $300 for stocks) minus one as (stocks) growth trend.

I have no strong opinion about whether to update the spreadsheet's trends based on the latest Credit Suisse Yearbook Summary or not, except that I want users to know that they can take a single copy of the VPW table and use it all retirement long.

A compromise would be to update the trends every 5 years (in 2020, 2025, etc) just to reinforce the idea of stability; that there's no need to update the VPW table yearly (or ever). Would that be more intellectually satisfying than using stale values from 2016?
Last edited by longinvest on Tue Oct 16, 2018 9:41 am, edited 1 time in total.
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Re: Variable Percentage Withdrawal (VPW)

Post by cap396 » Sat Jul 21, 2018 7:34 am

Thank you, longinvest, that's a very clear explanation and totally makes sense to me. I know you've put a lot of work and research into all of this, and it is really benefiting me and many others.

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Re: Variable Percentage Withdrawal (VPW)

Post by Ckprocker » Tue Oct 16, 2018 8:37 am

For the VPW spreadsheet, do you just use your investments, stock and bond funds etc, or do you also include your CD’s, money markets and high interest savings accounts? (Sorry if I missed that answer, but with 16 pages, its hard to digest everything )
Thanks

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Re: Variable Percentage Withdrawal (VPW)

Post by hudson » Tue Oct 16, 2018 8:40 am

Ckprocker wrote:
Tue Oct 16, 2018 8:37 am
For the VPW spreadsheet, do you just use your investments, stock and bond funds etc, or do you also include your CD’s, money markets and high interest savings accounts? (Sorry if I missed that answer, but with 16 pages, its hard to digest everything )
Thanks
I'm not an authority, but I used all investments including CDs, etc.

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Re: Variable Percentage Withdrawal (VPW)

Post by longinvest » Tue Oct 16, 2018 8:43 am

Ckprocker wrote:
Tue Oct 16, 2018 8:37 am
For the VPW spreadsheet, do you just use your investments, stock and bond funds etc, or do you also include your CD’s, money markets and high interest savings accounts? (Sorry if I missed that answer, but with 16 pages, its hard to digest everything )
Thanks
From the wiki's VPW page:
VPW is best used in conjunction with guaranteed base income from Social Security, pensions, and, if necessary, inflation-indexed Single Premium Immediate Annuity (SPIA).

Missing payments, between retirement and the start of Social Security pension, can be provided by using a simple CD ladder or short-term bond fund. For the purposes of VPW calculations, the money set aside in this CD ladder or short-term bond fund should not be considered as part of the portfolio.

It has been suggested to delay the Social Security pension to age 70 to increase base income in Bogleheads forum topic: Delay Social Security to age 70 and Spend more money at 62.
The answer is in the underlined sentence, above.

In other words, if the money is set aside in CDs and savings accounts for a specific purpose (e.g. replacing Social Security payments between retirement and 70, emergency fund, etc.), then it shouldn't be included as part of the portfolio for VPW calculation purpose.

If, on the other hand, CDs and high interest savings accounts were being used as part fixed income, in a portfolio, then they would be included for VPW calculation purpose.
Last edited by longinvest on Tue Oct 16, 2018 8:53 am, edited 5 times in total.
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Re: Variable Percentage Withdrawal (VPW)

Post by Ckprocker » Tue Oct 16, 2018 8:45 am

Thanks for your very quick reply. Much appreciated :happy

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Re: Variable Percentage Withdrawal (VPW)

Post by 2015 » Tue Oct 16, 2018 9:24 am

cap396 wrote:
Sat Jul 21, 2018 7:34 am
Thank you, longinvest, that's a very clear explanation and totally makes sense to me. I know you've put a lot of work and research into all of this, and it is really benefiting me and many others.
I missed this post and couldn't agree more. Other than the 3 fund PF and Berstein's won the game concept, there isn't much investing information on this forum I pay attention to. The shining exception to this is longinvest's generosity in continually providing detailed explanations behind the VPW concept. This has probably done more to impact my thinking on personal microeconomics and investing strategy than anything I've read here (well, besides Taylor's posts). I have enacted LMP this year and will enact VPW next year.

I completely agree with longinvest's idea of dispensing with the almost pathological search for false precision. Simplicity means good enough, optimization, as opposed to needless (and dangerous) complexity through seeking maximization. In this manner, VPW is quite elegant in its simplicity.

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Re: Variable Percentage Withdrawal (VPW)

Post by GAAP » Tue Oct 16, 2018 10:27 am

2015 wrote:
Tue Oct 16, 2018 9:24 am
cap396 wrote:
Sat Jul 21, 2018 7:34 am
Thank you, longinvest, that's a very clear explanation and totally makes sense to me. I know you've put a lot of work and research into all of this, and it is really benefiting me and many others.
I missed this post and couldn't agree more. Other than the 3 fund PF and Berstein's won the game concept, there isn't much investing information on this forum I pay attention to. The shining exception to this is longinvest's generosity in continually providing detailed explanations behind the VPW concept. This has probably done more to impact my thinking on personal microeconomics and investing strategy than anything I've read here (well, besides Taylor's posts). I have enacted LMP this year and will enact VPW next year.

I completely agree with longinvest's idea of dispensing with the almost pathological search for false precision. Simplicity means good enough, optimization, as opposed to needless (and dangerous) complexity through seeking maximization. In this manner, VPW is quite elegant in its simplicity.
Indeed! Precision is when all of the darts cluster together, accuracy is when they hit the bullseye. Any spreadsheet will give you number precision out to 10 decimal points -- whether the numbers are useful is something else entirely.

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Re: Variable Percentage Withdrawal (VPW)

Post by Emilyjane » Wed Oct 17, 2018 6:54 am

longinvest wrote:
Tue Oct 16, 2018 8:43 am
Ckprocker wrote:
Tue Oct 16, 2018 8:37 am
For the VPW spreadsheet, do you just use your investments, stock and bond funds etc, or do you also include your CD’s, money markets and high interest savings accounts? (Sorry if I missed that answer, but with 16 pages, its hard to digest everything )
Thanks
From the wiki's VPW page:
VPW is best used in conjunction with guaranteed base income from Social Security, pensions, and, if necessary, inflation-indexed Single Premium Immediate Annuity (SPIA).

Missing payments, between retirement and the start of Social Security pension, can be provided by using a simple CD ladder or short-term bond fund. For the purposes of VPW calculations, the money set aside in this CD ladder or short-term bond fund should not be considered as part of the portfolio.

It has been suggested to delay the Social Security pension to age 70 to increase base income in Bogleheads forum topic: Delay Social Security to age 70 and Spend more money at 62.
The answer is in the underlined sentence, above.

In other words, if the money is set aside in CDs and savings accounts for a specific purpose (e.g. replacing Social Security payments between retirement and 70, emergency fund, etc.), then it shouldn't be included as part of the portfolio for VPW calculation purpose.

If, on the other hand, CDs and high interest savings accounts were being used as part fixed income, in a portfolio, then they would be included for VPW calculation purpose.
Longinvest,
Just to clarify, in the VPW worksheet for Advanced Users, would the total portfolio value at the top include the amount being used to replace SS until 70 yo? (I’m giving away that I am not an “advanced user”)

Thanks. I’m another Boglehead who appreciates all the work you put into this tool.
"Real knowledge is to know the extent of one's ignorance", Confucius

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Re: Variable Percentage Withdrawal (VPW)

Post by longinvest » Wed Oct 17, 2018 9:04 pm

Emilyjane wrote:
Wed Oct 17, 2018 6:54 am
Just to clarify, in the VPW worksheet for Advanced Users, would the total portfolio value at the top include the amount being used to replace SS until 70 yo? (I’m giving away that I am not an “advanced user”)
Emilyjane,

If the money to fill the gap in Social Security (SS) payments between retirement and 70, ((70 - retirement age) X annual SS), is set aside into a high-interest savings account, a CDs, or a short-term bond fund, it shouldn't be included within the total portfolio value, but the payments should be counted as "Current Pensions with COLA".

This other spreadsheet (the VPW-adv spreadsheet) is really meant for advanced users who already understand how VPW really works. I suggest that new users download the VPW backtesting spreadsheet, instead, to learn how VPW really works when applied on a portfolio by looking at how it would have behaved in past markets. I also suggest that they use the simple and intuitive method explained in our Wiki within their retirement plan:
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Re: Variable Percentage Withdrawal (VPW)

Post by longinvest » Wed Oct 17, 2018 11:04 pm

The wiki's instructions, for using VPW, say this:
Around age 80, if you're still alive, it is important to consider using part (but not all) of your remaining portfolio to buy an inflation-indexed Single Premium Immediate Annuity (SPIA), so that total non-portfolio income (including Social Security, pension, and other lifelong income) is sufficient to live comfortably, independently of future portfolio withdrawals. This aims to reduce the financial risks associated with living past age 100.
I'm writing this post to explain the above suggestion.

According to United States Life Tables, 2013 (page 6), 1.0% of males and 2.8% of females reach age 100. In particular, (1,023 / 51,252) = 2.0% of 80 years old males and (2,754 / 64,427) = 4.3% of 80 years old females make it to age 100. The chance of one spouse surviving to age 100, in a man and woman couple (both of age 80) is ((2.0% + 4.3%) - (2.0% X 4.3%)) = 6.2%. Note that this is for the general population, without accounting for socioeconomic status.

It's logical to calibrate financial plans on high-probability scenarios (like dying before 100). Yet, it would be prudent to also consider the consequences of low-probability adverse financial events (like living beyond 100) and, when necessary, plan to dampen their impact.

VPW is calibrated to deliver its last withdrawal at age 99. While the probability of still being alive at 100 is low, its financial consequences could be severe if VPW withdrawals were necessary for the comfort of the retiree. It's thus a good idea, at age 80, to buy sufficient inflation-indexed SPIA* income to insure one's lifelong financial well-being, when necessary.

* Indexed to the CPI or to a specific percentage like 3%.

Why not before 80? Because inflation-indexed SPIAs are more expensive when one is younger. Also, one might not even reach 80. Only 51% of males and 64% of females make it to 80.

Why not after 80? Because fewer insurance companies are willing to sell inflation-indexed SPIAs past this age, leading to less competition and higher prices.

I wouldn't buy more than strictly necessary to dampen the financial impact of surviving past 100. It's a low-probability event (98% of men and 96% of women, still alive at 80, don't make it to 100) and it's OK to be less wealthy when alive at 100. The goal, here, is to avoid ending up eating cat food under a bridge at 100 (figuratively).

Having sufficient lifelong inflation-indexed non-portfolio income, in old age, can also be helpful in case of cognitive decline or inability to manage the portfolio (due to the death of the spouse who was managing it).
Last edited by longinvest on Thu Oct 18, 2018 7:31 am, edited 1 time in total.
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Re: Variable Percentage Withdrawal (VPW)

Post by vineviz » Thu Oct 18, 2018 1:21 am

longinvest wrote:
Wed Oct 17, 2018 11:04 pm


VPW is calibrated to deliver its last withdrawal at age 99. While the probability of still being alive at 100 is low, its financial consequences could be severe if VPW withdrawals were necessary for the comfort of the retiree. It's thus a good idea, at age 80, to buy sufficient inflation-indexed SPIA* income to insure one's lifelong financial well-being, when necessary.

* Indexed to the CPI or to a specific percentage like 3%.
I almost completely agree with this recommendation.

The only nuance I would add is that a growing body of research on actual retirement spending shows that most people have spending that grows at a rate that is LESS than the rate of inflation.

If Social Security (which is fully indexed to inflation) covers a majority of the basic living expenses and/or a major portion of the non-SPIA assets are explicitly inflation-indexed (i.e. in TIPS), it could be the case that an inflation- indexed SPIA might not necessarily be the best choice .
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch

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Re: Variable Percentage Withdrawal (VPW)

Post by longinvest » Thu Oct 18, 2018 7:03 am

vineviz wrote:
Thu Oct 18, 2018 1:21 am
longinvest wrote:
Wed Oct 17, 2018 11:04 pm
VPW is calibrated to deliver its last withdrawal at age 99. While the probability of still being alive at 100 is low, its financial consequences could be severe if VPW withdrawals were necessary for the comfort of the retiree. It's thus a good idea, at age 80, to buy sufficient inflation-indexed SPIA* income to insure one's lifelong financial well-being, when necessary.

* Indexed to the CPI or to a specific percentage like 3%.
I almost completely agree with this recommendation.

The only nuance I would add is that a growing body of research on actual retirement spending shows that most people have spending that grows at a rate that is LESS than the rate of inflation.

If Social Security (which is fully indexed to inflation) covers a majority of the basic living expenses and/or a major portion of the non-SPIA assets are explicitly inflation-indexed (i.e. in TIPS), it could be the case that an inflation- indexed SPIA might not necessarily be the best choice .
Vineviz,

Here's a key sentence of my post (which wasn't included in the above quote):
longinvest wrote:
Wed Oct 17, 2018 11:04 pm
I wouldn't buy more than strictly necessary to dampen the financial impact of surviving past 100.
The idea is to buy as little inflation-indexed SPIA as possible at age 80 to insure (along with pre-existing non-portfolio income like Social Security) a lifelong income floor in case of life beyond 100*.

* As little as possible might be $0 for those who already have enough lifelong inflation-indexed non-portfolio income.

In a 3% inflation world, the payments of a nominal SPIA (not indexed to inflation) would lose 3% of their value per year. If bought at age 80, payments will have lost (1 - (1 / 1.03)^(100 - 80)) = 45% of their value by age 100. Worse, the loss in purchase power would continue to deepen with time.

It would be a very bad idea to buy an insurance product which fails to provide protection exactly when it's needed, when living beyond 100.

The better idea would be, at age 80, to buy no more inflation-indexed SPIA than strictly necessary to insure one's financial well-being in case of life beyond 100.

One last thing. Every year of retirement, my wife and I plan to give money we don't need and enjoy the process (hopefully making a difference in the lives of others). We don't intend to leave the unneeded part of withdrawal money in the portfolio and die as the richest people in the graveyard. So, if our personal spending goes down during retirement, it will just give us the opportunity to increase our giving.
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vineviz
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Re: Variable Percentage Withdrawal (VPW)

Post by vineviz » Thu Oct 18, 2018 12:28 pm

longinvest wrote:
Thu Oct 18, 2018 7:03 am
vineviz wrote:
Thu Oct 18, 2018 1:21 am
longinvest wrote:
Wed Oct 17, 2018 11:04 pm
VPW is calibrated to deliver its last withdrawal at age 99. While the probability of still being alive at 100 is low, its financial consequences could be severe if VPW withdrawals were necessary for the comfort of the retiree. It's thus a good idea, at age 80, to buy sufficient inflation-indexed SPIA* income to insure one's lifelong financial well-being, when necessary.

* Indexed to the CPI or to a specific percentage like 3%.
I almost completely agree with this recommendation.

The only nuance I would add is that a growing body of research on actual retirement spending shows that most people have spending that grows at a rate that is LESS than the rate of inflation.

If Social Security (which is fully indexed to inflation) covers a majority of the basic living expenses and/or a major portion of the non-SPIA assets are explicitly inflation-indexed (i.e. in TIPS), it could be the case that an inflation- indexed SPIA might not necessarily be the best choice .
Vineviz,

Here's a key sentence of my post (which wasn't included in the above quote):
longinvest wrote:
Wed Oct 17, 2018 11:04 pm
I wouldn't buy more than strictly necessary to dampen the financial impact of surviving past 100.
The idea is to buy as little inflation-indexed SPIA as possible at age 80 to insure (along with pre-existing non-portfolio income like Social Security) a lifelong income floor in case of life beyond 100*.

* As little as possible might be $0 for those who already have enough lifelong inflation-indexed non-portfolio income.

In a 3% inflation world, the payments of a nominal SPIA (not indexed to inflation) would lose 3% of their value per year. If bought at age 80, payments will have lost (1 - (1 / 1.03)^(100 - 80)) = 45% of their value by age 100. Worse, the loss in purchase power would continue to deepen with time.

It would be a very bad idea to buy an insurance product which fails to provide protection exactly when it's needed, when living beyond 100.

The better idea would be, at age 80, to buy no more inflation-indexed SPIA than strictly necessary to insure one's financial well-being in case of life beyond 100.

One last thing. Every year of retirement, my wife and I plan to give money we don't need and enjoy the process (hopefully making a difference in the lives of others). We don't intend to leave the unneeded part of withdrawal money in the portfolio and die as the richest people in the graveyard. So, if our personal spending goes down during retirement, it will just give us the opportunity to increase our giving.
I suspect we agree on the best approach, and I appreciate your great work in this topic. I mainly wanted to make note that many retirees grow spending at rates notably below inflation.

A nominal SPIA is much more problematic if spending is growing at 1.5% (ie inflation minus 1-2%) than if spendings growing in lockstep with CPI.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch

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Re: Variable Percentage Withdrawal (VPW)

Post by longinvest » Thu Oct 18, 2018 12:57 pm

Dear Vineviz,

I think that it was clear, in my posts, that I was discussing the low-probability financial risk of surviving beyond age 100.

Best regards,

longinvest
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Re: Variable Percentage Withdrawal (VPW)

Post by vineviz » Thu Oct 18, 2018 1:16 pm

longinvest wrote:
Thu Oct 18, 2018 12:57 pm
Dear Vineviz,

I think that it was clear, in my posts, that I was discussing the low-probability financial risk of surviving beyond age 100.

Best regards,

longinvest
That was definitely clear.

What was less clear, and for this reason I made note of it, is that magnitude of that low-probability risk associated with holding a nominal SPIA is nowhere near the pure rate of inflation compounded. Instead it is, for most retired people, somewhere between 25% less and 75% less than that.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch

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