Timing: Retirement Myth
Submitted by Larry Frank Sr. on Mon, 03/17/2014 - 3:00pm
When you retire influences your income in the golden years. Or does it?
Here’s an example.
The retirement 4% rule – which says that, if you withdraw roughly 4% of
your savings annually for 30 years’ retirement, you stand a good chance
of not outliving your money – sometimes works well and sometimes
doesn’t, depending on how you time your retirement.
Let’s look at twins each with $1 million of savings and identical portfolio
allocations at retirement. The first twin, Jane, retires and her first year’s
retirement income under the 4% rule hits $40,000 ($3,333 per month),
which she then increases for inflation 3% each year.
The second twin, Mary, retires one year later – a year during which the
markets declined and Mary’s portfolio balance therefore just tops
$900,000. Under the 4% rule, Mary’s income in her first retirement year is
$36,000, or $3,000 a month. Jane appears better off, having timed her
retirement during a good year.
Jane’s portfolio, however, also drops by the same market amount plus the
$40,000 she withdrew the prior year. Maryis actually better off in the long
run because she doesn’t overspend; she spends $36,000 in her first
retirement year while Jane in that year expects to be able to spend
$41,200 (Jane’s initial yearly income plus the 3% inflation increase).
Another approach adjusts the withdrawal rate based on longevity tables.
Let’s say Jane retires at age 65 and, based on longevity tables, expects to
live longer than age 89.
Under that time frame, she may withdraw 5.22% ($52,200) with a 10%
chance – the odds of a portfolio with her particular allocation running out
of money by the time she reaches 89 –she must spend less during this
year; nine-tenths of the time she may be able to adjust spending up.
That 10% is Jane’s possibility of adjustment (POA) in her first year. POA
signals how much or little the stress of spending puts on a portfolio
through a year and the percentage of simulations in which savings run
out before the end of a timespan. The more simulations fail, the clearer
the signal to do something. Adjusting spending is most effective; market
timing, which means making investment decisions based on your
predictions of stocks’ up and downs, is by far the least effective.
When Jane’s portfolio value falls to approximately $904,000, she must
cut her monthly spending to approximately $3,935 to preserve her
portfolio value for future years. She can gamble: Adjusting sooner retains
unspent portfolio value but may necessitate adjustments more often if
economic or market conditions keep falling; waiting to adjustmay avoid
an adjustment if portfolio values stop short of reaching a low point of
The hitch: If values do reach that low, the spending adjustment must be
Look at the situation a year into Jane’s retirement, as her twin sister
Mary retires. They are both 66 and expect to live, now, 23 more years.
Though the twins’ portfolio balances both stand at some $904,000, they
can withdraw more (5.38%) because less time remains in their expected
Both twins may now prudently start the year spending approximately
$4,053 a month (5.38% of $904,000, divided by 12).
Jane started retirement with spending expectations based on $1 million –
an amount that market slides soon whittled. Mary entered retirement with
a lower balance and a spending expectation lower than her sister’s.
Both may make small spending adjustments based on their market risk
and exposure in the (extremely unknown) future. Higher spending
becomes possible if portfolio values rise. Portfolio value exceeding
monthly living expenses goes, for example, to replacing Jane’s old car,
Mary’s home repairs or both sisters’ money reserves that they spent
during the last market swoon.
Some advisers use a POA percentage as a figure of constant adjustment
in spending during the present year: Spending matches a portfolio
value’s rise and fall to keep the POA constant. More practical, because
spending doesn’t constantly change, is to use the POA as a reference to
adjust spending less often, at key decision points.
Frequent looks at failing simulations and reassessment of portfolios and
spending are the best measures to evaluate and monitor how to meter
out money in retirement. These twins demonstrate that when you retire is
a myth of expectations.
The markets affect everyone with similar allocations the same. Having
expectations to make small adjustments, either up or down, to spending
over time helps you retain your portfolio as needed for future income
needs. An annual review of both portfolio value and longevity tables
works to monitor prudent spending.
Moral of the story: She who spends more is more likely to run
out if money. Up until now, it was hard to tell when too much
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Larry R. Frank Sr., CFP, is a Registered Investment Adviser (California)
in Roseville, Calif. He is the author of the book, Wealth Odyssey. He has
an MBA with a finance concentration and B.S. cum laude in physics with
which he views the world of money dynamically. He has peer-reviewed
research published in the Journal of Financial Planning.
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