Being wealthy doesn't mean having all the money in the world, just not having to worry about it.

How Would Less’s Retirement Approach Have Worked from 1966-1982?

Question: Been loving your site since the “old days” when you had the message board, etc….
I’ve never read your “take” on that tired canard of the sideways US stock market of 1966 to 1982….

I know dividends were greater, no international funds, no gold funds, etc., and the most positive data I have seen claim total return estimates of a little over 5% for the Dow and almost 7% for the S&P during that period. But of course, inflation averaged just under 7% during that same period so…

If we were to experience such a period again, and a person had just entered the distribution phase of their life, would the philosophy of staying globally diversified in equities, keeping a couple years’ worth of living expenses in cash equivalents, and varying your SWR [safe withdrawal rate] annually, be workable?

Answer: It was certainly workable in the sense that you could have supplemented the down years with the reserve funds to avoid any reductions in drawings and not come close to running out over the generous 30-year retirement we always assume in these situations. (In fact, my calculations say it would have survived 37 years.) The approach I suggested doesn’t adjust for inflation: it only adjusts for changes in the actual funds available to draw. So you would have stayed at the same nominal spending level for several years before the 1982 takeoff.

You can’t shoehorn my approach into the “safe withdrawal rate” approaches: we don’t mechanically adjust spending for inflation while ignoring the actual performance of the market. I’ve never understood how it makes sense for your withdrawal at age 75 to be based on your
account balance at age 65. It should be based on what you have at the time you’re 75 and recalculated annually. That allows you to base your withdrawal at age 65 on reasonable expectations rather than the worst-case scenario: you’re planning to use your brain and adjust the amount if you happen to have badly timed your retirement. More importantly, if you DON’T retire at the worst-possible time, you spend your actual retirement able to enjoy much more spending than the SWR approach permits. Spending is far more flexible than most people acknowledge (unless you’re living in an unsustainably expensive home), so why not enjoy more spending when it appears reasonable and cut back if and when it appears to be a sensible precaution?

Keep it simple: each year draw up to 5% of the equity balance you had at the beginning of THAT year. Up in up years, down in down years. If you’re not prepared to cut spending in down years, start with a two-year reserve that can supplement spending in the FIRST bear market after retirement (or to handle emergencies, which are never included in these formulas). Once you’ve used up the two-year reserve, enough time has passed so that the equities, even following these horror-story retirement dates, have risen to a level you can comfortably reduce in later down years (not to mention, most people find their desire to travel, shop, and eat in expensive restaurants diminishes over time).

This is pretty much what I do with clients: I wouldn’t think of laying out a 30-year spreadsheet and then putting their withdrawals on autopilot while ignoring the performance of their portfolio. Nor, I should add, did William Bengen, the recently retired adviser who first discussed the “safe withdrawal rate” approach two decades ago. He made it clear that his study was merely to give everyone a ballpark idea of what withdrawal rate was historically sustainable in the worst-case scenarios. That some people turn it into a brain-dead formula isn’t his fault.

Got it? A global equity portfolio to make future returns more consistent than one-country portfolios. Five percent of the ACTUAL equity balance drawn each year. Each year is calculated based on what you have at the beginning of THAT year. Start retirement with some cash reserves to deal with one major bear market, if it happens to hit shortly after retirement, as well as emergencies. Don’t bother replenishing.

There is no perfect withdrawal system: any reasonable limit on spending is doable, and real-life shocks force people to make changes in approaches that look so clean on a spreadsheet. In my view, the danger of the “safe withdrawal rate” approach is that it attempts to predetermine the withdrawals for decades to come instead of working with the most current information available each year. Which is anything but safe.