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Additional Thoughts on Retirement Withdrawal Rates
Our recent blog titled “New Study Sheds Light on Retirement Withdrawal Rates” (Friday April 22, 2011) discussed a recent study published in the Journal of Financial Planning that seemed, on the surface at least, to indicate that under certain circumstances, portfolio withdrawal rates exceeding 4% annually (adjusted for inflation) may be sustainable for retirees.
We had planned a follow-up blog with some additional thoughts. A few days ago, we received a comment from Wade Pfau, a former Oakland County resident, and now Associate Professor of Economics at the National Graduate Institute for Policy Studies (GRIPS) in Tokyo, Japan. Mr. Pfau has a stellar background, having obtained a Ph.D. in economics from Princeton University (2003). Mr. Pfau also writes a blog on Blogger.com titled “Pensions, Retirement Planning and Economics Blog”. In his blog bio, he states that his “main research interests are related to developing methods to better analyze issues related to retirement planning”.
Mr. Pfau had posted a blog titled “Trinity Study Updates” on April 1, 2011, discussing the same study we wrote about. We will leave it to our readers to read Mr. Pfau’s entire article and point out here just a few of the points he made. Mr. Pfau’s comments included the following:
(1) Mr. Pfau noted that the Trinity study did not consider mutual fund fees, which he noted could be anywhere from 1% to 2%, annually. Such fees could considerably impact the sustainable withdrawal rate.
(2) He also noted that the Trinity study considered withdrawal periods of up to 30 years. For those living to age 100 or more, lower withdrawal rates will be required in order to have a high probability of one’s funds being sufficient.
(3) Mr. Pfau noted that the Trinity study seems to indicate that higher portfolio stock percentages are needed for high success in retirement. He stated in his blog that “with U.S. data, the choice of stock allocations between 30% and 80% had very little impact on the worst-case sustainable withdrawal rates”.
(4) He commented that the Trinity study did not take into consideration retires who wanted to leave something for their beneficiaries.
He also pointed out some good news that we had planned to comment on. He stated : “On the other hand, there is some good news. Retirees who diversify their portfolios with international assets and TIPS many very well find an edge to keep the 4% rule alive.”
We would take his statement a bit further. We recommend our clients invest in eleven different asset classes, including TIPS and international assets as well as some commodity-related assets. Studies have shown that broad diversification can increase returns while lowering portfolio risk. We believe a focus on broad diversification and low fund fees (well below 1% for index funds) can do much to preserve the 4% rule and perhaps provide for a somewhat higher withdrawal rate. Further study is likely necessary to see whether our theory is justified. We appreciate Mr. Pfau’s comments and encourage our readers to read his blog in its entirety (just click on the link above).
We had planned a follow-up blog with some additional thoughts. A few days ago, we received a comment from Wade Pfau, a former Oakland County resident, and now Associate Professor of Economics at the National Graduate Institute for Policy Studies (GRIPS) in Tokyo, Japan. Mr. Pfau has a stellar background, having obtained a Ph.D. in economics from Princeton University (2003). Mr. Pfau also writes a blog on Blogger.com titled “Pensions, Retirement Planning and Economics Blog”. In his blog bio, he states that his “main research interests are related to developing methods to better analyze issues related to retirement planning”.
Mr. Pfau had posted a blog titled “Trinity Study Updates” on April 1, 2011, discussing the same study we wrote about. We will leave it to our readers to read Mr. Pfau’s entire article and point out here just a few of the points he made. Mr. Pfau’s comments included the following:
(1) Mr. Pfau noted that the Trinity study did not consider mutual fund fees, which he noted could be anywhere from 1% to 2%, annually. Such fees could considerably impact the sustainable withdrawal rate.
(2) He also noted that the Trinity study considered withdrawal periods of up to 30 years. For those living to age 100 or more, lower withdrawal rates will be required in order to have a high probability of one’s funds being sufficient.
(3) Mr. Pfau noted that the Trinity study seems to indicate that higher portfolio stock percentages are needed for high success in retirement. He stated in his blog that “with U.S. data, the choice of stock allocations between 30% and 80% had very little impact on the worst-case sustainable withdrawal rates”.
(4) He commented that the Trinity study did not take into consideration retires who wanted to leave something for their beneficiaries.
He also pointed out some good news that we had planned to comment on. He stated : “On the other hand, there is some good news. Retirees who diversify their portfolios with international assets and TIPS many very well find an edge to keep the 4% rule alive.”
We would take his statement a bit further. We recommend our clients invest in eleven different asset classes, including TIPS and international assets as well as some commodity-related assets. Studies have shown that broad diversification can increase returns while lowering portfolio risk. We believe a focus on broad diversification and low fund fees (well below 1% for index funds) can do much to preserve the 4% rule and perhaps provide for a somewhat higher withdrawal rate. Further study is likely necessary to see whether our theory is justified. We appreciate Mr. Pfau’s comments and encourage our readers to read his blog in its entirety (just click on the link above).
posted by David C. Patterson and Erin Preston at
10:58 AM
1 Comments:
Dear David and Erin,
Thank you for the your nice updated post. After hearing more and more about this point from noted financial planners such as Dan Moisand and Rick Ferri, I've added another point of good news to my blog post. Based on your experiences, I wonder if you have any comments about this point as well (because I am not a financial planner myself):
7. UPDATE - MORE GOOD NEWS: I am hearing more and more that actual retirees do not necessarily need to adjust their spending for inflation each year, and that actual retirees may voluntarily reduce their spending as they get older. For both of these cases, a higher initial withdrawal rate can be supported. The combination of these factors may mean that the no-inflation adjustments case (which is shown in Table 1 of the April 2011 Trinity study) may be more representative of what actual retirees will experience. I hadn't realized this. The traditional 4% rule only applies when taking annual inflation adjustments. I have not done research about how my other concerns listed above impact withdrawal rates for the no-inflation adjustments case, but I hope to do this later.
Wade Pfau
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