Running Out Of Money
When my career started almost 30 years ago, it was common for people to think that if they earned 10% a year, spending 7% was reasonable. I can’t recall the last time someone made that suggestion.
The public has become a little more educated about markets and retirement planning. So much so that I often encounter people who know about the “4% rule.” Some read so much they have even told me that they heard 4% is no longer good and 3% to 3.5% is better.
Well of course 3% is safer than 4%, but that has always been true. If 4% of a client’s portfolio is enough to cover all their costs as a retiree, I think it is quite reasonable to tell them they are in great shape.
First, no one I have ever met, or even heard about, starts retirement by spending $X and inflating that every year in perfect lockstep with inflation—the pattern modelled in most studies.
I’m certain there are people who increase real spending over their retirement, but that’s the exception not the rule. Research like David Blanchett’s retirement “smile” seems to back this up. Real spending tends to decrease, not rise. As people age, they do less and spend less.
Second, most households won’t need to sustain withdrawals for 30 years, the standard time frame in these studies. Educated Americans with money can reasonably assume they will have an above-average life expectancy, but that still doesn’t equate to a 30-year retirement for most.
Third, considering 4% as “safe” does not mean 4.1% or more is dangerous. A recent article by Michael Kitces noted that if retirees had used the 4% rule going back to 1871, their ending balances exceeded beginning balances even after 30 years of inflation-adjusted withdrawals in 90% of the cases. In fact, it was just as prevalent for there to be six times the starting balance after 30 years as there was to be less than the starting value.
Theoretically, clients using the 4% rule might find it difficult to run out of money. To deplete their savings, markets would have to behave worse than they ever have in our recorded financial history, the clients would have to beat the odds with their life expectancy, and they would have to spend money in lockstep with a rigid pattern that likely exceeds their needs.
Clients who are too conservative with their withdrawals are much more likely to leave a lot of assets behind than they are to run out of money. Do they really want to restrict their present to get that future?