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Retirement Planning: "The 4 Percent Rule Is Not Safe in a Low-Yield World"

Posted in Investing and Retirement on January 30th, 2015

Michael S. Finke, Wade D. Pfau, and David Blanchett have self-archived "The 4 Percent Rule Is Not Safe in a Low-Yield World."

Here's an excerpt:

The safety of a 4% initial withdrawal strategy depends on asset return assumptions. Using historical averages to guide simulations for failure rates for retirees spending an inflation-adjusted 4% of retirement date assets over 30 years results in an estimated failure rate of about 6%. This modest projected failure rate rises sharply if real returns decline. As of January 2013, intermediate-term real interest rates are about 4% less than their historical average. Calibrating bond returns to the January 2013 real yields offered on 5-year TIPS, while maintaining the historical equity premium, causes the projected failure rate for retirement account withdrawals to jump to 57%. The 4% rule cannot be treated as a safe initial withdrawal rate in today's low interest rate environment. . . . The success of the 4% rule in the U.S. may be an historical anomaly, and clients may wish to consider their retirement income strategies more broadly than relying solely on systematic withdrawals from a volatile portfolio.

The widely used 4 percent rule is based on "Determining Withdrawal Rates Using Historical Data" by William P. Bengen, which was written in 1994. See his 2006 Conserving Client Portfolios During Retirement for a detailed treatment and a further refinement of the rule. Under the rule, a first-year retiree could safely withdraw $40,000 from a $1 million dollar 50/50 stock/bond portfolio.

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