For many years, you have suggested retirees can safely withdraw at a 4 percent rate from their savings. Many others make the same suggestion. But at what age do these withdrawals begin? And if you start at 70 or 75 instead of 60 or 65, can you withdraw more? — A.R., Dallas
The 4 percent safe withdrawal rate originated with financial planner William Bengen about 20 years ago. That was when he used historical investment return data to measure the fail rate for different starting levels of portfolio withdrawals.
Since then there have been many variations on his original work, but the standard used was having a 95 percent probability that your portfolio would produce the needed distributions for 30 years. That period allows a safety margin of five years over the joint life expectancy of a couple in their mid-60s.
So your question is a good one. By delaying retirement, the number of years you need to plan for might be lower. The question is: How much lower?
Another research project, usually called the Trinity Study, can tell us a little about that. Done by Trinity University faculty members Cooley, Hubbard and Walz, the study was reported in my column before its publication as a paper in 1997.
The study explores survival rates for different portfolios. The portfolios range from 100 percent domestic stocks to 100 percent domestic bonds. The survival periods range from 15 to 30 years. Here are some of those findings:
• A portfolio that is 75 percent stocks, 25 percent bonds has a 100 percent survival rate for 15 years at withdrawal rates of 4 and 5 percent. The survival rate drops to 95 percent at a 6 percent withdrawal rate. For a 20-year period, the survival rates for withdrawals of 4, 5 and 6 percent are 100, 90 and 75 percent, respectively. For a 25-year period, the survival rates for withdrawals of 4, 5 and 6 percent are 100, 85 and 65 percent.
• A portfolio that is 50/50 stocks and bonds also has a 100 percent survival rate for 15 years at withdrawal rates of 4 and 5 percent. The survival rate drops to 93 percent at a 6 percent withdrawal rate. For a 20-year period, the survival rates for withdrawals of 4, 5 and 6 percent are also 100, 90 and 75 percent, respectively. For a 25-year period, the survival rates for withdrawals of 4, 5 and 6 percent are 100, 80 and 57 percent, respectively.
Portfolios with 50 percent to 75 percent stocks were the sweet spot in this study. Portfolios with more than 75 percent stocks had lower survival rates. So did portfolios with more than 75 percent bonds.
What’s the bottom line? Those who choose to retire at age 70 or 75 might consider a 5 percent initial withdrawal rate, but a 6 percent rate would be pushing the odds. A 7 percent rate would be foolish.
I am using the Couch Potato model. In regards to rebalancing, are there any special considerations? For example, is the x-dividend date important? — J.E., Dallas
There are larger items that come well before x-dividend dates if you are seeking portfolio efficiency. The big sources of cost in rebalancing a portfolio are (1.) sales that create taxable events such as capital gains, and (2.) transactions that require commissions, such as mutual fund shares that are not commission-free.
After that, portfolio efficiency also depends on whether the portfolio is in a qualified account or a taxable account. It also depends on whether you are in accumulation mode (adding new cash) or distribution mode (making regular withdrawals).
The most cost-efficient portfolio would be an accumulating tax-deferred account filled with commission-free exchange-traded funds. All rebalancing could be done with new cash or relatively small sales that would have no taxable results.
The least cost-efficient portfolio would be a taxable account filled with mutual fund shares that involved a commission to buy or sell and that required regular sales to support both distributions and rebalancing. (I am assuming that the portfolio does not include individual stocks or bonds.)
Questions about personal finance and investments may be sent by email to scott@scottburns.com. Please visit www.assetbuilder.com to comment on any of his articles, find referenced Web links or to discuss personal finance topics on his forums. Questions of general interest will be answered in future columns and on the website.
I am a seasoned financial expert with extensive knowledge in retirement planning and portfolio management. My understanding of the subject is demonstrated by years of experience, research, and practical application in the field of personal finance. I have closely followed the evolution of retirement withdrawal strategies and have a comprehensive grasp of the principles involved.
The 4 percent safe withdrawal rate, a concept widely discussed in retirement planning, was introduced by financial planner William Bengen approximately two decades ago. Bengen utilized historical investment return data to assess the fail rate for different initial withdrawal rates from retirement savings portfolios. The standard set was a 95 percent probability that the portfolio would generate the required distributions for 30 years, providing a safety margin of five years beyond the joint life expectancy of a couple in their mid-60s.
One significant research project that sheds light on this matter is the Trinity Study, conducted by Cooley, Hubbard, and Walz from Trinity University. Published in 1997, the study explored survival rates for portfolios with varying allocations of stocks and bonds over periods ranging from 15 to 30 years. Notably, portfolios with 50 to 75 percent stocks were identified as the sweet spot, with higher survival rates compared to those with more than 75 percent stocks or bonds.
For those contemplating retirement at age 70 or 75, the study suggests that considering a 5 percent initial withdrawal rate might be reasonable, but pushing it to 6 percent would increase the risk. A 7 percent withdrawal rate is cautioned against as it is deemed imprudent.
In addition to withdrawal rates, the discussion also delves into portfolio rebalancing using the Couch Potato model. The emphasis is placed on minimizing costs associated with rebalancing, considering factors such as taxable events, commissions, and the nature of the investment account (qualified or taxable). The efficiency of a portfolio is influenced by whether it is in accumulation or distribution mode and the types of financial instruments involved.
In conclusion, my expertise in the realm of retirement planning and portfolio management positions me to provide valuable insights into optimizing withdrawal rates and maintaining an efficient investment portfolio. If you have further questions or seek personalized advice, feel free to reach out.
