Drawdown rules help

mrstout

westv wrote: »

10% is only an example not a set in stone percentage. Also one benefit of following the rules is that the withdrawal rate can exceed 4%.

I don't think the rules suggest a 10% allocation to cash at all. I just have a 10% cash holding in my portfolio alongside the bonds.

mrstout

Going through the rules I cannot see guidance about how cash which has been previously set aside to meet future withdrawals is counted in the portfolio (rule: "Assets with positive returns, resulting in over-weighted allocation excess is sold and the proceeds invested in cash to meet future withdrawal requirements.).

One of the rules requires that the withdrawal amount should be reduced if the previous years withdrawal amount repeated on the current portfolio value would be more than 20% above the initial target withdrawal rate.

So let's say a few years into drawdown, the rules have been followed, and as a result the cash fund set aside has £10,000 balance and the inflation adjusted withdrawal amount is £4,200.

Portfolio Assets
Stocks £49,000
Bonds £25,000
Cash £10,000
Total £84,000

Cash withdrawals fund: £10,000

Initial Withdrawal rate 4% (£4,000 on £100,000 starting portfolio)

Proposed withdrawal: £4,200

=5.0% of £84,000 portfolio assets
=4.5% of £94,000 including additional cash fund

A withdrawal of 5% on the core income generating portfolio would trigger a reduction in withdrawals, but if we include all the cash holdings we are still within the limits according to the rule.

So following the rule, do we cut our withdrawal amount by 10% to £3,780 or not?

I know it can be argued that you should just do what you feel comfortable with. But what I feel most comfortable with is following the rules as the research supporting them is compelling, but to follow the rules you need to know exactly how they were applied during the tests.

LXdaddy

I think the "rules" have the cash which has been previously set aside to meet future withdrawals is assumed to be inside the portfolio (until you need to withdraw it). Any cash outside the portfolio can be used to cushion the effect of withdrawal rate being reduced.


On your question about rebalancing - in the paper linked by jamesd Decision Rules and Maximum Initial Withdrawal Rates on page 52 column 1 includes "on the first day of the year...overweighted asset classes were also rebalanced to the target asset allocation unless the portfolio decision rule was applied"

mrstout

LXdaddy wrote: »

I think the "rules" have the cash which has been previously set aside to meet future withdrawals is assumed to be inside the portfolio (until you need to withdraw it). Any cash outside the portfolio can be used to cushion the effect of withdrawal rate being reduced.


On your question about rebalancing - in the paper linked by jamesd Decision Rules and Maximum Initial Withdrawal Rates on page 52 column 1 includes "on the first day of the year...overweighted asset classes were also rebalanced to the target asset allocation unless the portfolio decision rule was applied"

Your point about cash referring only to cash within the portfolio makes sense. If we therefore exclude cash already withdrawn to set aside for future income then in the example above we would reduce income.

The other point about rebalancing. Yes I see that. But I cannot see when any rebalancing ever takes place if following the rules.

The paper states: "Each year's entire withdrawal was made on the first day of the year from the portfolio's assets according to the decision rule in effect. At that time, overweight asset classes were also rebalanced to the target allocation unless the portfolio decision rule was applied. At the end of each year, asset class returns were applied before any rebalancing or the source of next year's withdrawal was determined."

It seems contradictory. You make the withdrawal based on a decision rule, yet rebalance unless the decision rule was applied. There will never be a time when no decision rule is applied - you have to apply a decision rule every year to determine the method of withdrawing cash!

The paper refers to 'the portfolio management rule' (PMR) which determines the source of each year's withdrawal (overweight equities, then overweight bonds, then cash, then bonds, finally if no cash or bonds remaining then equities). I interpret these as the decision rules being referred to.

The paper also states in respect of the decision rules "Following years where an asset class has a positive return that produced a weighting exceeding its target allocation, the excess allocation is sold and the proceeds invested in cash to meet future withdrawal requirements."

So instead of selling to rebalance, you have already sold all the overweight assets and put the proceeds into cash.

So when and how does the rebalancing of asset allocations happen?

jamesd

The first PMR says to sell from an asset class when it has had a positive return and is overweight. That's what does the rebalancing: you've sold enough to get back to the target weighting.

LXdaddy

mrstout wrote: »

Your point about cash referring only to cash within the portfolio makes sense. If we therefore exclude cash already withdrawn to set aside for future income then in the example above we would reduce income.

My interpretation..
The rules don't withdraw cash until it is needed to be used for the current years withdrawal. Proceeds of selling overweight funds goes into cash within the portfolio. If there is more cash than is needed for the current year's withdrawal it is set aside inside the portfolio


I agree that the rules are a bit complicated to understand in abstract. I think I'm heading for a spreadsheet where I try and code the rules into it and then run some scenarios.

I am not at the point of putting my funds into drawdown yet but I am attracted by the Guyten Klinger approach so do need to see the detail for myself.

LXdaddy

jamesd wrote: »

The first PMR says to sell from an asset class when it has had a positive return and is overweight. That's what does the rebalancing: you've sold enough to get back to the target weighting.

But you have not bought any of the underweight funds (just put the proceeds into cash) - that's what confuses me about that.

coyrls

LXdaddy wrote: »

But you have not bought any of the underweight funds (just put the proceeds into cash) - that's what confuses me about that.

Selling the overweight asset class to cash will bring the portfolio into balance there is no need to buy the underweight asset class. Note there is no "new" money coming in, this is a drawdown strategy.

mrstout

LXdaddy wrote: »

My interpretation..
I agree that the rules are a bit complicated to understand in abstract. I think I'm heading for a spreadsheet where I try and code the rules into it and then run some scenarios.
I am not at the point of putting my funds into drawdown yet but I am attracted by the Guyten Klinger approach so do need to see the detail for myself.

I read jamesd (brilliant!) thread on withdrawal rates and investigated the Guyton Klinger research and have decided to try to implement it, but realised that to implement the rules correctly every year requires a spreadsheet. I am in the process of doing the spreadsheet, but that in turn requires understanding the rules and the order of the logic, which is why it has raised these questions for me. Good luck with your spreadsheet!

LXdaddy wrote: »

But you have not bought any of the underweight funds (just put the proceeds into cash) - that's what confuses me about that.

I am also struggling with the logic about the cash and rebalancing. Maybe jamesd can explain how it it supposed to work?

jamesd wrote: »

The first PMR says to sell from an asset class when it has had a positive return and is overweight. That's what does the rebalancing: you've sold enough to get back to the target weighting.

LXdaddy wrote: »

But you have not bought any of the underweight funds (just put the proceeds into cash) - that's what confuses me about that.

I am also struggling with the logic about the cash and rebalancing.

coyrls wrote: »

Selling the overweight asset class to cash will bring the portfolio into balance there is no need to buy the underweight asset class. Note there is no "new" money coming in, this is a drawdown strategy.

If we accept this to be the meaning, how do we explain this statement on 'rebalancing' from the Guyton Klinger paper? It says:

"Each year's entire withdrawal was made on the first day of the year from the portfolio's assets according to the decision rule in effect. At that time, overweight asset classes were also rebalanced to the target allocation unless the portfolio decision rule was applied. At the end of each year, asset class returns were applied before any rebalancing or the source of next year's withdrawal was determined."

This is contradictory. You rebalance unless a decision rule is applied. Following this logic, whenever a decision rule is applied (which is always) you do not rebalance. It is in effect saying you would never rebalance.

Alternatively, if the act of selling overweight assets and adding to cash (which is a decision rule being applied) is the rebalancing then how does that fit with this statement?

jamesd

It is fiddly to understand what is meant by the portfolio rebalancing section but logic comes to the rescue so some extent. The portfolio used is split between only equities and fixed interest. If equities are up and overweight, they are sold, bringing the weights into line, making rebalancing unnecessary. That's what I think the portfolio decision rule means. So if that sale wasn't triggered, do the income taking then rebalance.

I've been thinking of a worksheet for this stuff and maybe a Google spreadsheet that people can use each year. But not just for G&K, also covering where I can the rest that I recommend, particularly Guyton's sequence of return risk taming method.