The 4% rule is a retirement funding rule of thumb that suggests potential spend rates in retirement. That is, if you need to push an investment portfolio to the max, you might be able to spend 4.2% (annually) of the portfolio value, adjusted for inflation. Morningstar recently had a look at the 4% rule and given expensive U.S. stock markets and low bond yields, suggest that you might greatly lower your expectations. We’re rewriting the 4% rule on the Sunday Reads.
Here’s the post from Ruth Saldanha at Morningstar – Is the 4% rule dead?
And here’s the link to a podcast interview with Bill Bengen, the creator of that 4% rule.
From the Morningstar post – But a 3.3% rule might do.
Benz, Rekenthaler and Ptak employed 30-year asset-class return estimates provided by Morningstar Investment Management (Equity returns between 6% and 11%, fixed income returns between 2% to 3.5% and inflation of 2.1%) and found a 3.3% starting safe withdrawal rate for balanced portfolios.
This table suggesting spend rates for various asset allocations and time in retirement. From the table, if you were planning to spend 35 years in retirement and had a 60/40 balanced portfolio, you would plan for a 3% spend rate.
Of course, one problem is that the evaluation uses a 2.1% inflation rate. The posted rate of inflation is now 5% in Canada and almost 8% in the U.S.
Does anyone really use the 4% rule?
No one really uses the 4% rule if they have a well-thought-out retirement financial plan. In retirement there will be a funding dance between private and government pensions, inheritances, home sales proceeds, other real estate income, part-time work income, plus that portfolio (in RRIF/TFSA/Taxable). At times, for many, the retirement plan might suggest that you spend down certain buckets at 8% (for example) while letting other buckets grow. A real retirement funding plan is not rigid.
Here’s an example from Cashflows & Portfolios.
That said, that does not mean that we should completely discount the Morningstar and other studies that suggest we might plan for the retirement portfolio to have much less funding ability in the future.
On MoneySense, here’s a post from Jonathan Chevreau – Is the 4% rule obsolete?
That post suggests that, save for a couple of outliers, history offers …
Even with that terrible timing, retirees could safely withdraw 4.15% of their portfolios. Kitces broadened the data set and found two more “worst case scenarios” that included 1907 and 1966. Even so, the average safe withdrawal rate throughout every available period was 6% to 6.5%. “Even more remarkable,” Engen says, “when starting with a $1-million portfolio and using the 4% Rule, retirees finished with the original million 96% of the time.”
Also on MoneySense, my weekly column – Making Sense of the markets. That post likely offers my best compilation of interesting charts to date.
Flexibility is key
Many will suggest that you use a variable retirement funding plan. Moving forward, we don’t know the inflation rate, nor the returns for stocks, bonds, commodities, gold, real estate, bitcoin.
Take what the market gives you. If the portfolio offers a few years of incredible gains, spend at a higher rate. When the markets tank, you might harvest less income from the portfolio. I am working on a variable withdrawal rate post. Stay tuned.
A few keys for retirees who are entering retirement would be – start retirement with enough of a defensive stance. Take away the stress. No one wants to enter retirement worrying about the state of the stock markets.
- Have enough in cash and short term bonds
- Keep your fees low
- Hold a well-balanced portfolio
- Add some dedicated inflation protection
- Consult a retirement specialist, get a plan
More Sunday Reads
On My Own Advisor we have – inflation isn’t going back to normal weekend reads edition.
And more of the heavy lifting on what to read this weekend is thanks to Dividend Hawk and his week in review.
At The Findependence Hub, how investment fees can set you back years or greatly reduce your retirement income. What is shocking is that you would reduce your portfolio spend rate by your fees paid. Fees eat away at your retirement. If a sustainable spend rate turns out to be 3.3% and you’re paying an advisor 2% (insert scary face emoji, ha). Good luck with that after-fees 1.3% spend rate.
The self-directed investor has such a wonderful advantage. We can invest with fees well below 0.10%.
Kid stuff
On Passive Canadian income, Rob looks at the kids’ portfolios. Yes can’t start too early, that’s for sure.
Related must-read post: The smart way to invest in the RESP with Justwealth.
On Tawcan, Bob offers his 2021 financial review. From that post –
In 2021 we spent a total of $71,852.02 CAD or $57,434.75 USD. This has been the highest annual spending amount since we started tracking our expenses in 2011.
That’s a very interesting deep dive.
There’s a bunch of new posts on stocktrades.ca, including how old age security works.
Preet answers, are the sanctions on Russia working to stop the war in Ukraine?
Thanks for reading. Have a wonderful Sunday, and week.
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