Sustainable Withdrawal Rates

Preparing for life after work. RRSPs, RRIFs, TFSAs, annuities and meeting future financial and psychological needs.
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Re: Sustainable Withdrawal Rates

Post by Springbok » 16 May 2011 09:14

bowtie wrote:
I like reading stuff like this. If only I had thought about this stuff when I was in university. I feel like I've set myself back a few years by not having started heading toward retirement right out of the gate.
Yea, Why have fun when you are young when you can skimp and save and do it when you are too old to enjoy it ;)

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Re: Sustainable Withdrawal Rates

Post by Bylo Selhi » 16 May 2011 09:37

Springbok wrote:Why have fun when you are young when you can skimp and save and do it when you are too old to enjoy it
Have fun while you're young by all means. But also scrimp and save a bit for when you're older so you'll be able to have fun then as well. Having fun at any age doesn't necessarily require a lot of spending. Living comfortably doesn't necessarily require a lot of scrimping and saving either.

There are many shades of grey. The challenge is to find the one that works best for the individual and their family.
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Re: Sustainable Withdrawal Rates

Post by Knowsitall » 16 May 2011 11:52

I luves Blondie to death ehh??

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Re: Sustainable Withdrawal Rates

Post by bowtie » 16 May 2011 15:38

Springbok wrote:
bowtie wrote:
I like reading stuff like this. If only I had thought about this stuff when I was in university. I feel like I've set myself back a few years by not having started heading toward retirement right out of the gate.
Yea, Why have fun when you are young when you can skimp and save and do it when you are too old to enjoy it ;)
:thumbsup: I like to think that I can live pretty simply. Minimal skimping required.

My fiancee and I figure we can save a real $90-100k per year for the next 20ish years. Maybe if I'd started earlier that could've been cut to <20 years. I don't feel the need to be in this rat race for very long.

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Re: Sustainable Withdrawal Rates

Post by dns902 » 02 Nov 2011 12:54

Here’s a simple approach to sustainable withdrawal rates. It recognizes that the annual withdrawal amounts have to be linked to the actual investment returns of the underlying pot of money. It is most suitable for an investment portfolio of limited volatility.

The approach requires two parameters: N, the number of years you need income, and S (in %) the difference, or offset, between what your pot’s ROI is (in %) in a given year and how much (in %) you will upwardly index your next year’s withdrawal amount. N and S are considered fixed at the beginning of the plan.

The difficult problem is always: How do you set the initial payment? My simple formula says percentage drawdown in first year is (100/N + S/2)%.

A couple of examples: Suppose we choose offset S =0%. i.e. the next year’s indexing amount (in %) for the annual withdrawal is always equal to the current year’s ROI. We also choose N=25 years. In this case the pot will expire after N=25 years but you have been indexing your annual withdrawal amounts upwards at a rate matching your (previous year’s) annual returns. The initial withdrawal amount here is 100/N=4%.

Now suppose we have N=20 years and we set S =1%, so in a given year the withdrawal indexing amount is 1% less than the previous year’s ROI. In this case the initial withdrawal amount will be 100/N + S/2 = 5.0+0.5 = 5.5%.

In general, increasing the offset, S, increases the initial withdrawal amount but decreases the indexing effect. Note that the magic here is that you do not need to know your future ROI's.

I have tested this extensively and it works well as a financial planning tool. Space prevents any more details here but I’m happy to share. It’s been published in Canadian MoneySaver.

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Re: Sustainable Withdrawal Rates

Post by steves » 02 Nov 2011 13:57

The problem with simplified withdrawal rate math is that it is done in a vacuum. It doesn't take into account other financial entities such as income tax (is our nest egg reg/nonreg/txfree), bridging (early periods when CPP and OAS haven't yet kicked in), and other potential competing (+&-) cash flows.
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Re: Sustainable Withdrawal Rates

Post by Flights of Fancy » 02 Nov 2011 15:37

dns902 wrote: The approach requires two parameters: N, the number of years you need income, and S (in %) the difference, or offset, between what your pot’s ROI is (in %) in a given year and how much (in %) you will upwardly index your next year’s withdrawal amount. N and S are considered fixed at the beginning of the plan.
Yabbut in reality n is a random variable.

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Re: Sustainable Withdrawal Rates

Post by dns902 » 03 Nov 2011 12:35

Yabbut in reality n is a random variable.
Yahbut am I boverred? Baniging on like that we'll soon be up to our ears in frigging Gompertz functions, innit? And anyway who said N has to be a random? Look at this face....does it say random? Nahbut. Yahbut. (With apologies to Catherine Tate).

Yes lifespan is a RV and probably annuities are a good way to handle it. But wait, what was that little formula for intial withdrawl , oh yes (100/N + S/2)%. Now at 65 the average life expectancy for a Canadian male is about 18 years. The Globe and Mail today has long term bonds at yielding about 2.5% So if Mr Average age 65 purchases a non-indexed annuity, the effective S value is about 2.5% and we simply plug in N=18 (no Gompertz functions needed, and Actuaries please turn away) so maybe Mr Average can expect a intiial (and continuing) annuity payment of roughly (100/18 + 2.5/2)% = 6.8% of the purchase amount. If Mr Average purchases such an annuity with $100,000 the formula says he might expect 6.8% of $100,000 pa (for life), or about $570 pm. The Cannex website today lists such an annuity from Equitable Life at $576 pm. So even if N isn't random, there's insight to be gained. (I think).

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Re: Sustainable Withdrawal Rates

Post by dns902 » 03 Nov 2011 12:53

steves wrote:The problem with simplified withdrawal rate math is that it is done in a vacuum. It doesn't take into account other financial entities such as income tax (is our nest egg reg/nonreg/txfree), bridging (early periods when CPP and OAS haven't yet kicked in), and other potential competing (+&-) cash flows.
Absolutely. I couldn't agree more. and with RIF's you have minimum withdrawals and LIF's have maxima AND minina, etc. The Devil is always in the details. However, I'm not sure that including other cash flows in the mix is useful for this thread, in that very little of a general nature can be readily be deduced from each individual's unique situuation.

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Re: Sustainable Withdrawal Rates

Post by BRIAN5000 » 08 Nov 2011 20:17

http://www.sunware.ca/illustrations/seq ... uage=en-CA

Sequence of returns calculator

Pick, 2 mil, 4 % withdrawal, worst 5 Years, Run out of money in 19 years. :(

I like the Best 5 years 2% draw $146,870,038 :shock:
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little bit longer and wish you would’ve sold early - this is just part of the game.” - Frank Zorilla via Abnormal Returns

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Re: Sustainable Withdrawal Rates

Post by BRIAN5000 » 08 Jan 2012 21:21

Retiree Stock Allocation Recommendations: Do You Fit the "Mold"?How much of your portfolio should be invested in stocks if you are a retiree living off of your retirement savings?

The answer depends on how closely you fit the typical "mold."

http://www.aaii.com/asset-allocation/ar ... t-the-mold
“Sometimes you are going to sell early and wish you would’ve held on, other times you will hold on a
little bit longer and wish you would’ve sold early - this is just part of the game.” - Frank Zorilla via Abnormal Returns

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Re: Sustainable Withdrawal Rates

Post by Springbok » 19 Jan 2012 16:50

Morningstar have a calculator that allows you to determine how much you should withdraw. You can link to a description here. The Calculator link is somewhat hidden at bottom of first paragraph, but this is it.

The part where you estimate your confidence in the portfolio providing for your retirement is a bit confusing. It is somewhat counter-intuitive that if your confidence level is only 50% you can draw MORE than if it is 95%. Reading the first summary clarifies this, but perhaps they could have designed that part a little better!

Also interesting that IF you have 95% confidence in your portfolio, it makes no difference whether you have 40, 50 or 60% in equities. You can still draw 4% for 30 years.

We will stay with our 4%+inflation withdrawal.

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Re: Sustainable Withdrawal Rates

Post by Peculiar_Investor » 02 Feb 2012 13:16

Morningstar's had a couple of recent articles on the topic. Unpacking the 4% Rule for Retirement-Portfolio Withdrawals covers the origin of the rule and it's application. As a result of Bogleheads • nisiprius' comment, there is a follow-up For Retirement-Portfolio Withdrawals, Your Mileage Is Likely to Vary.

For those that don't frequent Bogleheads, IMHO nisiprius posts are highly recommended.
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Re: Sustainable Withdrawal Rates

Post by ghariton » 02 Feb 2012 17:41

Thanks, P_I.

I found the comments even more interesting than the articles. (That doesn't happen on Canadian sites.)

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Re: Sustainable Withdrawal Rates

Post by Mouly » 02 Mar 2012 12:52

I use the 4% Rate the same way I use other indicators for health such as Blood Pressure, Weight, BMI, blah, blah, blah. It's a good first rough estimate that can tell me if I should feel secure or worried. However I have to couple it with some common sense, no one indicator is going to accurately tell me about my financial or physical health forty years out.

If my blood pressure looks good today I can't conclude I'll still be healthy 40 years out but I can conclude I'm on a good course and I should still monitor my conditions. If my pressure is very bad today I can likely conclude that trouble lies ahead unless I change course. It's just a good initial check.

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Re:

Post by vince2 » 16 May 2012 03:09

martingale wrote:It is my opinion that people would be better off if they could learn to live with variable income: More money to spend on luxuries when the market has a good year, and a bit of belt tightening when it's had a bad year. (snip)

To effect this, it's a good idea to guarantee the minimum cost of living with fixed income products, including any CPP/OAS/pension, topped up with a bond ladder or a package of annuities. This guaranteed income stream ensures that even in the worst market year, you've got enough money to pay for groceries, heat, and rent.

Beyond those minimums, the rest can be invested in more risky equities, and you can spend any dividends thrown off along with a portion of any capital gains. The downside of a major loss is softened by the fixed income stream. The upside is that in good years you get fancier vacations and generally nicer things. (snip)
I am about to retire and have read and digested (it has been tough) the work by Bengen, the Trinity study, the work by Kitces and Wade Pfau on SWR, and have also waded through all 17 pages of the thread on SWR. I have also read the commentary by Wade Pfau on the work by John Campbell and Robert Shiller in their 1998 article, "Valuation Ratios and the Long-Run Stock Market Outlook," and the implications on the SWR (sequence of returns). It seems to me that the figure of 4% and inflation adjusted yearly increments might no longer be safe and a more flexible approach is called for, something if my memory serves me correctly has been advocated by both Shakespeare and Gummy and Martingale.

1. A base income just above poverty level should be guaranteed by a combination of CPP/OAS/Annuity/DB pension/Preferreds after establishing what is poverty level (YMMV). It seems to me that $36,000PA would cover all bases in Canada and allow for a little discretionary spending.

2. Flexible spending should apply to the rest, in a good year draw more and in a bad year less. I have no problem with leaving large bequests to children but would be reluctant to stint our spending with the fear of longevity risk.

My questions are:
1. Should one still then keep a capital reserve to ride out a bad market?
2. My reading of the matter suggests that the good years should be utilized to rebuild reserves and only , say 50% of the gains should be drawn, thoughts?
3. Long Term Care - the problem is that one party can need LTC but the other still needs a place to live, which prevents the house being used as funding, my research suggests that men on average need about 6 months of LTC before they die, women are more hardy and need about 3 years of LTC - and that more or less concurs with our limited experience with the wife's family. There is no point in being self-effacing (I have worked too long and hard), there are enough assets to cover a comfortable LTC for my wife.
4. I have thought long and hard about annuities and will probably invest in a SPIA with 10 yrs guarantee at age 65yrs - the reassurance of a regular income will be worth it.

I admire George Hariton's prescience in buying RRB's at the correct time and sitting back and relaxing but my life has been somewhat more tumultuous and I have has to improvise as I went along. The ride has been exhilarating but at times nerve-racking. Do not emigrate at the age of 54yrs - life is tough enough without complicating it, having said that, it has been my immense joy at obtaining Canadian citizenship and being able to enable my children to do it as well. You have been born to it and will probably never appreciate it like I have.
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Re: Sustainable Withdrawal Rates

Post by Shakespeare » 16 May 2012 08:56

something if my memory serves me correctly has been advocated by both Shakespeare
My current philosophy (age 63 1/2, modest DB pension, indexed, and early CPP) is roughly:

1. Figure out how much of an unindexed annuity you would need for a basic lifestyle, added to pension/CPP/OAS.

2. Figure out the cost, rounded up to the next $100K. That should be in bonds, not equities.

3. Add enough equities to roughly double that sum, to the nearest $100K.

4. Spend everything that comes in (income or capital gains) above that amount. :mrgreen:

5. If the portfolio drops below 2x what you need, cut back slightly. The more it drops, the fewer vacations you take.
“A wise man should be prepared to abandon his baggage at any time.” -- R.A. Heinlein, The Door Into Summer.

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Re: Sustainable Withdrawal Rates

Post by kcowan » 16 May 2012 09:44

The other things is to maintain a contingency reserve to fund new cars, furniture, and vacations. The best time to build this is during good years. Make sure it does not get lost in the total because you might need it to absorb the bad years too.

We don't specifically budget for LTC but I expect our contingency reserves will build during the years leading up to it. I have 2 neighbours and both of them have wives with Alzheimers in LTC. My main observation is that the need for maintaining the older place when just one occupies it is a luxury. But they both hate change. They don't buy anything new so contingency expenses are nil. (They are 86 and 83.)
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Re: Sustainable Withdrawal Rates

Post by vince2 » 17 May 2012 04:46

Shakespeare wrote:My current philosophy (age 63 1/2, modest DB pension, indexed, and early CPP) is roughly:

2. Figure out the cost, rounded up to the next $100K. That should be in bonds, not equities.
I'm sorry, it's 2am and I'm a little slow (long day at the work), I take it that Preferreds should be regarded as equities here ?
Shakespeare wrote:My current philosophy (age 63 1/2, modest DB pension, indexed, and early CPP) is roughly:

5. If the portfolio drops below 2x what you need, cut back slightly. The more it drops, the fewer vacations you take.
I'm not sure that I understand what is meant by "need" here - would that be the basic lifestyle amount or would that be basic lifestyle + equities income?

Thanks for providing an example from your own experience - much appreciated. :beer:
'A slow death to those who become slaves of habit, who repeat the same track every day, who do not change pace, who do not risk and change the colour of their clothes, who do not talk and who do not learn.'
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Re: Sustainable Withdrawal Rates

Post by vince2 » 17 May 2012 04:53

kcowan wrote:The other things is to maintain a contingency reserve to fund new cars, furniture, and vacations. The best time to build this is during good years. Make sure it does not get lost in the total because you might need it to absorb the bad years too.

We don't specifically budget for LTC but I expect our contingency reserves will build during the years leading up to it. I have 2 neighbours and both of them have wives with Alzheimers in LTC. My main observation is that the need for maintaining the older place when just one occupies it is a luxury. But they both hate change. They don't buy anything new so contingency expenses are nil. (They are 86 and 83.)
Thanks for the advice re the contingency reserve and building it up in the good years.
I will build that into my planning.

BTW Keith, I am still considering Mexico as a snowbirding destination, it seems to me that you have the best of both worlds, but I will have to try out Phoenix, and Florida as well. DW is not particularly keen on Mexico - bad press.
'A slow death to those who become slaves of habit, who repeat the same track every day, who do not change pace, who do not risk and change the colour of their clothes, who do not talk and who do not learn.'
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Re: Sustainable Withdrawal Rates

Post by Shakespeare » 17 May 2012 09:04

I'm sorry, it's 2am and I'm a little slow (long day at the work), I take it that Preferreds should be regarded as equities here ?
Purchasing an annuity requires cash up front. Bonds offer a return-of-capital guarantee. Preferreds don't, although I suppose floaters might be suitable.
I'm not sure that I understand what is meant by "need" here
"Need" is the cash required for the basic annuity.
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Re: Sustainable Withdrawal Rates

Post by kcowan » 17 May 2012 09:27

vince2 wrote:BTW Keith, I am still considering Mexico as a snowbirding destination, it seems to me that you have the best of both worlds, but I will have to try out Phoenix, and Florida as well. DW is not particularly keen on Mexico - bad press.
[OT]Good plan. We spent 1 month for 2 consecutive years in Florida and covered the east coast from Delray to Key West and the Gulf coast from Dunedin to Naples before rejecting it. We also spent a holiday in Orlando. In the west, we tried Phoenix, Palm Springs, San Diego and Santa Barbara. Santa Barbara was close but Mexico won out on costs.

We also liked Key West but found it too confining with that long causeway. Fort Lauderdale and South Beach are still favourite places to visit. The keys NW of Sarasota are also neat to visit once.

The only way to deal with the bad press is to experience Mexico yourselves. Then you conclude what a crock the press coverage is. But it is very effective at scaring Americans. [/OT]
For the fun of it...Keith

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Re: Sustainable Withdrawal Rates

Post by parvus » 29 May 2012 20:54

Bylo Selhi wrote:
adrian2 wrote:some Sunday reading and debating points among friends?
I suppose what I'm trying to say is along the lines of:
1. These rules-of-thumb are nothing more than that. They're a good tool to use to start thinking about "how much is enough", first to save and then later to spend. They're not immutable laws of physics.
2. For most of us the universe is likely to unfold in an "average" way, probably not much different than it did, on average, over the past 50 or 100 years for our parents and grandparents. Since we can't predict when outlier situations (black swans) will occur or how they will affect us (we could be at the beginning of a technological/economic boom that will make the 1990s seem modest ;)), the best we can do are such things as (a) diversify, (b) save a bit more than the tools suggest, (c) spend a bit less than the tools suggest, (d) be prepared to do more of (b) and/or less of (c) as our lives develop and (e) don't worry (too much) about worst-case outcomes, but rather be happy.
3. Most of us who make the effort to plan and execute will save more than we need to in our working years and/or spend less than we need to in retirement. Consider the money that's left over to be the price of an insurance policy that attempts to protect us against black swans.
4. Be thankful that unlike most people even in developed countries we had a plan and were fortunate enough to end up with more than we needed rather than less.
5. Be thankful that we are among the relative few who won major prizes in the ovarian lottery, that lets us make these plans and have these conversations in the first place. And speaking of Buffett, "Success is getting what you want. Happiness is wanting what you get."
Not so sure the universe will unfold in the average way. Bengen and Pfau both base their scenarios on historical stock and bond returns. What happens when stock returns settle at about 5% for an extended period and bonds yield next to nothing?
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Re: Sustainable Withdrawal Rates

Post by vince2 » 30 May 2012 01:23

parvus wrote: Not so sure the universe will unfold in the average way. Bengen and Pfau both base their scenarios on historical stock and bond returns. What happens when stock returns settle at about 5% for an extended period and bonds yield next to nothing?
If I read wpfau correctly, he is not that optimistic that past favourable trends will continue for future retirees and 4% remain a SWR. He cites the work of Kitces and Campbell and Schiller who suggest that future market returns are loosely correlated with the PE10/EY10, and this might might have a strong influence on the SWR and if the PE10>19 or 20, the market might be overvalued and future returns will be poorer and a much lower SWR might be advisable. Present PE10 for the S&P =22.

I follow his thoughts and musing with interest - clearly the last word has not been spoken or written.
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Re: Sustainable Withdrawal Rates

Post by ghariton » 30 May 2012 11:03

Of course, decreasing real rates of return will lead to lower SWR. (I say real, because SWR is usually expressed in after-inflation terms. Thus, a 4% SWR is to be interpreted as withdrawing 4% the first year and indexing the amount to inflation thereafter.)

As a quick illustration of the impact of changing real return on the SWF, consider a thirty-year annuity certain, in real terms, with r the real rate of return throughout the thirty years. If r equals zero, pretty close to the situation today, the SWF is obviously 3.33%. (I note that such an annuity completely eliminates market risk, although credit risk remains.)

If r increases to 0.5%, SWR increases to 3.66%

If r increases to 1%, SWR increases to 3.87%

If r increases to 2%, SWR increases to 4.46%

If r increases to 3%, SWR increases to 5.10%

Many of the studies of SWR were performed at a time when real returns were 2% or so. Now, real returns are closer to 0.5%. My simple analogy suggests a drop in SWR of 1.0%, to somewhere around 3%

Such numbers are approximations of course, and don't take into account transaction costs, which would lower the SWF somewhat.

George
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