Safe withdrawal rate UK / early retirement

Linton

GSP wrote: »

Hi dunstonh, from above
"One of the biggest risks with drawdown is add-hoc withdrawals and thinking that you can draw out gains during good years without it impacting later on. If you set your income draw rate at the upper end, then that can be a very bad thing to do".

What do you advise people should do with gains made? All for being careful but would of thought a pension is to enjoy and not take to the grave with you. If there something left over for the kids (who'll be in their fifties by then and hopefully sorted financially) then great, but at what point can people release the shackles and spend a bit more if their fund has done well. Thanks

Repeat the planning exercise each year given where you are at that time. If your fund has risen significantly you may be able to increase your ongoing planned annual expenditure or take a one-off lump sum.

I think it would be a mistake to "release the shackles" and go wild at any time, at least at any age when you are likely to gain any real benefit from extra expenditure as you dont know how long you are going to live. According to the life expectancy figiures from the Office of National Statistiics a male aged 65 this year has a 1 in 9 chance of reaching 100. If an age of 85 is reached the chance increases to about 1 in 5.

point5clue

What do you advise people should do with gains made? All for being careful but would of thought a pension is to enjoy and not take to the grave with you. If there something left over for the kids (who'll be in their fifties by then and hopefully sorted financially) then great, but at what point can people release the shackles and spend a bit more if their fund has done well. Thanks

From what I can tell, you have to pick a SWR and stick to it, accepting that for it to be safe it is more likely than not that you will have excess money. The big but, is that you will only know its excess after a decade or more. I have thought this through and accept it, but I'm still concerned at some point my wife will ask why we've been careful all these years and are now millionaire when we can't enjoy it fully.

As someone mentioned above - you can always buy an annuity to pass the problem of excess money over to Norwich Union (I know...)

Thrugelmir

GSP wrote: »

What do you advise people should do with gains made?

What if you have the misfortune not to make any gains?

Triumph13

The Trinity study is based on blindly taking your withdrawal rate, plus inflation, whatever actually happens in the markets. Just about all the failures come down to poor market conditions in the early years eating through the capital. If your withdrawal rate only just gives you enough money to live on, then you might have no option but to do this and would therefore need to take a very conservative approach to withdrawal rate.
If your planned withdrawal rate gives you a reasonable amount of slack on spending then most people are rather more likely to cut back withdrawals when the market is bad which makes the risks of running out very much lower. If your SP makes up a decent proportion of your overall income then that helps a lot eg if SP was 50% of your planned income, then halving withdrawals during a crash would only mean a 21% reduction in spending once you take tax into account.

bostonerimus

GSP wrote: »

What do you advise people should do with gains made? All for being careful but would of thought a pension is to enjoy and not take to the grave with you. If there something left over for the kids (who'll be in their fifties by then and hopefully sorted financially) then great, but at what point can people release the shackles and spend a bit more if their fund has done well. Thanks

You keep the gains invested......the good times will allow you to survive the bad times.
If you do a 3.5% withdrawal there's a high probability that you'll die with money still in the pension accounts that your heirs will inherit. The 3.5% withdrawal rate is chosen to reduce the probability that you'll out live your pension pot to around 5%.

Of course this all depends on life expectancy, market returns and your spending rate. So you should re-evaluate your spending each year and maybe reduce it in bad years. I would not increase it in good years as that could lead to early depletion.

jamesd

jkwer521 wrote: »

But I’m finding it more difficult to estimate what returns I could expect and therefore what my safe withdrawal rate is.

So I’m interested what other people use as an assumption and broadly what investments they would have to make those returns. The standard one for the US seems to be 4% above inflation, therefore a safe withdrawal rate of 4% and therefore required capital of 25x annual spending.

The returns you actually get aren't what determine the safe withdrawal rate. That's determined by the worst case historic returns that you might end up living through.

The 4% rule should be considered obsolete and not just because Bengen revised it to a 4.5% rule by adding some small cap stocks to the mixture. Using something more modern like the Guyton-Klinger rules something in the five to six percent range would be OK for someone with no state pension who wants a level income throughout retirement and who's willing to adjust that down or up depending on the actual conditions they end up living through. To give some idea of just how bad the 4% rule is:

1. in two thirds of the historic cases the final balance would have been more than twice the initial balance.
2. in 96% of cases the final balance would have been higher than the starting one.

The more modern rules try to deal with that waste by varying income levels so that it's cut within the range you specify if you happen to live through bad times or increased if you live through good ones.

You should really review the Drawdown: safe withdrawal rates thread that westv linked to earlier and run through some cfiresim trials to explore your options. The examples linked from here will probably be useful.

If you just want a crude number for the UK, subtract 0.3% and 40% of the total of charges from all sources. That'll be very inefficient compared to modern rules but those are the adjustment factors for the UK and charges. It also completely ignores the state pension and knowledge that spending at all income levels tends to decline with age. Note that the UK adjustment is probably overly pessimistic because for most European countries the two world wars produced significant bad performance. But much better to use modern rules instead and tools like cfiresim make it easy to include the state pension and the typical drops in spending as people get older.

jamesd

point5clue wrote: »

From what I can tell, you have to pick a SWR and stick to it, accepting that for it to be safe it is more likely than not that you will have excess money. The big but, is that you will only know its excess after a decade or more. I have thought this through and accept it, but I'm still concerned at some point my wife will ask why we've been careful all these years and are now millionaire when we can't enjoy it fully.

You don't have to stick to the starting number. You can update it every year if you like. One of the core principles of a safe withdrawal rate is that it works for any starting year.

Better to use something like the Guyton-Klinger rules and Guyton's sequence of return risk reduction approach than a fixed income level and investment mixture if you're trying not to leave yourself dying with twice as much money as you started with.

You also don't have to ignore sustained bad performance, you're free after say five to ten years of bad performance to adjust downwards to what a new application of the initial rules calculations says. Assuming you're willing to take such adjustments that's best practice for minimising waste, in conjunction with a starting success rate target of about 75% (varies a bit depending how much of your essential income is from guaranteed sources like the state pension). With that combination the success rate level increases the starting income by not including the worst quarter of historic outcomes then the downward review protects you if you happen to have been unfortunate in your starting time. But Guyton's sequence of return risk reduction approach greatly reduces the effect of most bad historic starting points, so it's a vital tool for greatly reducing the chance and degree of big reductions.

jamesd

GSP wrote: »

Hi dunstonh, from above
"One of the biggest risks with drawdown is add-hoc withdrawals and thinking that you can draw out gains during good years without it impacting later on. If you set your income draw rate at the upper end, then that can be a very bad thing to do".

What do you advise people should do with gains made? All for being careful but would of thought a pension is to enjoy and not take to the grave with you

You can either spend them or use the higher starting level to calculate a new safe withdrawal rate. Remember that a pure 100% success probability safe withdrawal rate works for any starting conditions using whatever the pot size is at the time.

Since the four percent rule in two thirds of cases would have left a final value more than twice the starting value it's particularly important with that one to adjust in some way if you live though normal rather than worst case times. Even more modern rules like Guyton-Klinger don't ramp up the income fast enough to keep up with sustained good investing times, though they do at least do a much more reasonable job.