Sequence of Return Risk

This is super interesting. It really reinforces that having your assets in equity actually reduces risks long term.

 

You are a Pension Fund of One (or Two) – SWR Series Part 32

Very interesting take on safe withdrawal rate for the FIRE group. Do we only adjust for inflation? is CPI enough? Or should we be lowering our SWR?

 

Personal choice, but I don’t buy it. This is like saying if everyone starts spending more I’ll be left behind. That’s a ‘keep up with the Joneses’ sheep mindset.

If you’re pursuing FI you’ve probably already broken that link of competing with your peers and spending every wage rise that comes in. That’s the fundamental skill that allows people to become FI in the first place. So I don’t see why it makes sense to start doing it in retirement.

The CPI basket already adjusts upwards for increasing living standards over time (including technology) and also assumes no shopping around. It’s upwardly biased and likely overstates CPI for several reasons which the RBA says themselves in a paper. https://www.rba.gov.au/publications/bulletin/2014/mar/pdf/bu-0314-4.pdf

If you want to give yourself faster than CPI increases that’s fine, but it’s not necessary. In any case early retirees are likely to earn cash later doing something productive which can also be used to increase spending further if desired.

 

It also depends on what element of the CPI basket applies to you. It has sometimes been mooted about developing a CPI specificaly applicable for retired persons but nothing has come it. Highly unlikely it ever will.

Edit: Spelling. I really should avoid using this phone. Fat fingers. No auto-correct either.

 

@dunno what is it in particular that interests you with SORR which hasn’t been covered to date?

I’m genuinely curious especially given in your circumstances which would appear to be such that you could simply live off the natural yield of the portfolio.

 

Just looking back at where I decided SORR was beginning to do my head in and concluded that albeit unrealistic for many if one has sufficient wealth then the following quotes from Bernstein seemed a sensible plan for the investor who can stomach an equity dominated portfolio. Note also being US specific the yield especially at this time is very low. With ASX and European exposure yield would be higher:

Close but not quite there then a cash cushion will do the job:

Otherwise it’s back to the myriad theories of SORR out there which will appeal to the investor depending on their level of wealth and risk tolerance etc.

I’m just very thankful we have the temperament for equities and chose to build enough wealth to take the natural yield approach. Albeit we hold a cash buffer (likely unnecessary except for Super pensions) being extra conservative until a little further into retirement.

 

A few reasons.

• Intellectual curiosity.
• Getting to know the older data leads to some fascinating historical reading.
• It’s my psychological crux in a way that is a bit like your fondness for income.

Beginning of each month I pay myself a multiple of AWOTE. As soon as income is received, its invested according to what I think is the most efficient asset allocation (100% equities) for my situation, no complexity of cash buffers or anything like that required.

I operate like a larger super fund where they invest immediately according to the nominated asset allocation and pay withdrawals from that allocation. As someone primarily interested in funding an indexed amount each month as the bottom line, I don’t want to care about what the capital is doing or even what yield the fund is earning – I just want my monthly check. SWR & SOR understanding allowed me to set the withdrawal rate that I’m happy with and as such I don’t care one bit about what the market does in relation to either capital or yield or what Inflation does. My indexed monthly check is secure on a historical basis, of course the future could be worse than experienced in the past, But I can’t deal with unlimited potential of the future in my planning, so history as a guide is enough to give me calm.

Wars, depression, hyperinflation, pandemics, natural disasters, housing collapse, bank collapses, corruption etc, it’s all be seen at times around the world. A globally diversified portfolio with a withdrawal rate that has survived it all is my comfort blanket.

 

Thanks @dunno.

Actually I think I understand what you’re doing and for memory it is similar to what was detailed in a book by Frank Armstrong. Any income from investments is reinvested immediately according to asset allocation rather than topping up the cash buffer for upcoming withdrawals. Hence cash is put straight to work. Then depending on the desired payment period assets are realised whilst maintaining set asset allocation. The only negative was CGT but if in Super Pension mode that’s not an issue.

Is my understanding correct? Would love to know further detail if you’re prepared to share. Has it been setup so your partner can easily handle the process etc?

 

Me, the forever curious, again @dunno. More questions for you if that’s okay thanks. Must admit it’s refreshing to get onto other topics.

I can understand how SWR would apply in your approach assuming it is a fixed rate but inflation protected? Then perhaps there is a variable component? Further explanation of how / what you finally ended up doing to arrive at your approach would be of interest to a number of us here.

However I’m even more curious as to how the process takes into account SORR given an asset allocation of an all equities portfolio?

 

Yes, all surplus funds are invested according to allocation as soon as possible. All requirements for funds will be withdrawn from given allocation when needed.
Inflows and outflow are used to adjust the allocations.

The fear of having to withdraw funds in a downturn doesn’t worry me. Sequence risk and safe withdrawal rate research tells me I will get through fine and informs me that hits whilst withdrawing in drawdowns will be more than compensated by being fully invested in up markets.

Not really. It’s simple and enjoyable for me to run our finances, but they are not set up expressly to be run by somebody thats not interested. Because of the way we have organised our lives, all she really wants is nothing more than a regular and dependable deposit into spending account. Maybe that would change if I wasn't around. She is a very capable person. Estate planning is tricky, especially at this stage because the kids are still minor’s and the wife is still 15 years from preservation age. Luckily, I now have a good executor lined up to help the wife and transition things if I get hit by the proverbial bus in the near future.

Hopefully I’m still kicking once the my wife hits preservation age – the estate plan then will probably be as simple as closing the SMSF, roll her super (to the pension cap level) into a balanced option in an industry pension fund that would pay her statutory withdrawal minimums via a fortnightly payment, the remainder of super along with other funds would be invested in personal name in VAS/VGS with DRP switched on, for her to access as and when she desired. My assets would transfer straight to the girls. But until we all get a bit older the estate plan is a bit more complicated at this stage and uses some of the benefits of the SMSF and trusts etc. Getting the kids financially educated is a goal. I hope to leave them with the knowledge to do a good job of managing what will be their money.

 

It is standard that the safe withdrawal rates are calculated using inflation adjusted withdrawals. Inflation is the biggest historical variability in survival rate. I personally use wage inflation as the adjustment. 30 years ago, AWOTE was $26,540 today its $85,191 and that wasn’t a historically bad 30-year period for inflation on the whole. Imagine how useless the calculations would be if you didn’t allow for purchasing power in the high inflation periods.

As far as all equities go the calculations are simply run using the historical volatility of an all equity portfolio. (50/50 US/Aus)

The Safe withdrawal rate is the highest withdrawal rate that survives the worst sequence of inflation(wage) adjusted returns of an all equity portfolio. (safe withdrawal rate might be 3% which means you need to re-invest 1% of your good times 4% yield for a rainy day, don't get confussed and think we are just talking about spending down capital when we talk SWR.)

As someone that has linked and referred to lots of the authors that explains it all in detail. I’m not sure what is confusing you. I'm not much of an explainer of the stuff that fills my head - sorry.

 

Maybe you are a lot better as a explainer then you think,as the above explained it crystal clear to me,and i learn something ever day-early morning within this site..imho..

 

Brilliant, thanks.

Yes but that’s assuming my memory still works. And confusion is my normal state. More importantly I was interested in how you pulled this all together. There’s so many different strategies relating to this with many involving much more conservative approaches to SORR including those horrible things known as Bonds.

 

200 Years Of Safe Withdrawal Rates In One Cool Chart

The Retirement Manifesto -Helping People Achieve A Great Retirement



The Primary Driver Of Safe Withdrawal Rates Appears To Be…The Year In Which You Retire

 

Great chart once I got my head around it.

Would love to see up to date analysis with recent decades!

 

Magellan thinks it can crack sequencing risk problem

 

Hmm. Magellan. Hopefully not a reincarnation of Long-Term Capital Management.

 

He he. Not something of interest to me but thought I would post it anyway.

 

Did someone mention a free lunch?

 

There's your answer @ChrisP73.