How to calculate assets for Financial Independence, Retire Early (FIRE)

dunstonh

That's kind of the problem that I am having, most of the FIRE related content I find is focused for US.  Is there a good source, calculators focused around UK laws and market dynamics. 

Largely common sense and keeping it under review. (i.e. adjusting for inflation).   Gross investment returns have fallen significantly over the last 50 years.  However, net returns are broadly similar.     So, in theory the so called safe withdrawal rate (which would be a missale if wording like that was used over here) should have some linking to inflation.

I don't quite understand why you would say that its a 30 year retirement, mathematically as long as the growth is over 4% average, the capital should never decrease and only increase. Am I missing something technically ?

Inflation.

£100k will have the spending power of about £67k in 10 years time.       So, if you make 4% and draw 4% then in 10 years time, your 4% income will equate to 2.68% income in spending power.  10 years later it will be 1.79%.  To compensate, you will start drawing capital.  However, this then means you are making less.   And you then start the cycle of a falling value, every lower returns and ever greater draws spiralling until you run out of money.

kinger101

twister_teddy said:

Eco_Miser said:

twister_teddy said:

What about the scenario when you're retiring to a different country and you don't want to buy a house there. 
Why can't you sell or rent your current residential in UK before retiring abroad. 
What about the investment properties which are bringing in a certain yield every year. 
I don't understand why all the FIRE net worth need to be in liquid assets. The yield on the real estate is comparable to the income from the invested stocks.
Indeed I am factoring in the rental costs abroad in my burn rate.

You can do what you like, but if your investment properties aren't bringing in at least 4% after all expenses you're going to have problems with them at some stage.

NB. The '4% rule' is based on somewhat out of date US figures and a 30 year retirement. Longer retirements and UK investments both suggest a lower percentage, perhaps only 2%

That's kind of the problem that I am having, most of the FIRE related content I find is focused for US.  Is there a good source, calculators focused around UK laws and market dynamics. 
Most of the shares I've invested are global funds, so I understand that average growth needs to be over 4% (which it is) and similar historical figures are for the real estate in UK.
I don't quite understand why you would say that its a 30 year retirement, mathematically as long as the growth is over 4% average, the capital should never decrease and only increase. Am I missing something technically ?

The assumption is that in some years, growth (adjusted for costs and inflation) will be below 4% so there will be some erosion of capital.  Very few people are going to be 100% in equities at retirement so 4 % growth might be ambitious.  You certainly should not expect the kind or returns we've seen over the last decade as being normal.  

dont_look_now

twister_teddy said:

That's kind of the problem that I am having, most of the FIRE related content I find is focused for US.  Is there a good source, calculators focused around UK laws and market dynamics. 
Most of the shares I've invested are global funds, so I understand that average growth needs to be over 4% (which it is) and similar historical figures are for the real estate in UK.
I don't quite understand why you would say that its a 30 year retirement, mathematically as long as the growth is over 4% average, the capital should never decrease and only increase. Am I missing something technically ?

Yes, you are missing something: sequence of returns risk. Suppose the long-term average return from a portfolio of investments is inflation + 4% per year. It does not follow that you can draw 4% of the starting capital per year, increasing that in line with inflation. If you get unlucky, and the portfolio is a long way down in the early years after retirement, you could end up running out of capital anyway.

E.g. for each £100,000 of starting capital, suppose you try to draw £4,000 to spend in the first year; and if inflation is 1%, you'd increase that to £4,040 in the seond year; and so on.

However, if your porfolio crashes 50% (i.e. halves) just after you retire, then you're drawing £4,000 from a portoflio of only £50,000. Suppose markets stay down for 5 years, so you've now spent £20,000 in total (even without allowing for inflation), which reduces your remaining portfolio to £30,000! But in the sixth year. there is a recovery, and the portfolio rises 100% (i.e. doubles), which cancels out the halving. So you are back to a £60,000 portfolio. But not to £100,000, which is where somebody with the same portfolio who hadn't retired yet (and so wasn't drawing from the portfolio) would be. So your draw rate would be up to about 7%, which may well not be sustainable for too long.

These accidents can happen at any time. But the longer your retirement, the more chance there is for them to happen, so the less likely it is that 4% (or any other withdrawal rate) will be sustainable without running out of money. So the length of retirement is very relevant. The studies which suggested a 4% rate might be safe were based on a 30-year retirement. But that suggests that it wouldn't be safe for a longer retirement. And for other reasons, 4% may be over-optimistic even for 30 years.

twister_teddy

dont_look_now said:

twister_teddy said:

That's kind of the problem that I am having, most of the FIRE related content I find is focused for US.  Is there a good source, calculators focused around UK laws and market dynamics. 
Most of the shares I've invested are global funds, so I understand that average growth needs to be over 4% (which it is) and similar historical figures are for the real estate in UK.
I don't quite understand why you would say that its a 30 year retirement, mathematically as long as the growth is over 4% average, the capital should never decrease and only increase. Am I missing something technically ?

Yes, you are missing something: sequence of returns risk. Suppose the long-term average return from a portfolio of investments is inflation + 4% per year. It does not follow that you can draw 4% of the starting capital per year, increasing that in line with inflation. If you get unlucky, and the portfolio is a long way down in the early years after retirement, you could end up running out of capital anyway.

E.g. for each £100,000 of starting capital, suppose you try to draw £4,000 to spend in the first year; and if inflation is 1%, you'd increase that to £4,040 in the seond year; and so on.

However, if your porfolio crashes 50% (i.e. halves) just after you retire, then you're drawing £4,000 from a portoflio of only £50,000. Suppose markets stay down for 5 years, so you've now spent £20,000 in total (even without allowing for inflation), which reduces your remaining portfolio to £30,000! But in the sixth year. there is a recovery, and the portfolio rises 100% (i.e. doubles), which cancels out the halving. So you are back to a £60,000 portfolio. But not to £100,000, which is where somebody with the same portfolio who hadn't retired yet (and so wasn't drawing from the portfolio) would be. So your draw rate would be up to about 7%, which may well not be sustainable for too long.

These accidents can happen at any time. But the longer your retirement, the more chance there is for them to happen, so the less likely it is that 4% (or any other withdrawal rate) will be sustainable without running out of money. So the length of retirement is very relevant. The studies which suggested a 4% rate might be safe were based on a 30-year retirement. But that suggests that it wouldn't be safe for a longer retirement. And for other reasons, 4% may be over-optimistic even for 30 years.

I understand that inflation has to be factored in over time with the 4% withdrawal rule. I also think that 4% is more towards of minimal growth. Overall (10 year or so average) the stock returns are usually higher than 4% although I am willing to be proved wrong based on long term historical figures.  
I also understand the market doesn't always stay in a steady linear graph, there can be extreme fluctuations so there has to be some safety net and safe investment strategies such as diversification etc to minimise damage to the capital.
Your example of a 50% drop and then to stay at that level for 5 years is a bit of an extreme example however I do understand the scenario you're trying describe. 

kinger101

twister_teddy said:

dont_look_now said:

twister_teddy said:

That's kind of the problem that I am having, most of the FIRE related content I find is focused for US.  Is there a good source, calculators focused around UK laws and market dynamics. 
Most of the shares I've invested are global funds, so I understand that average growth needs to be over 4% (which it is) and similar historical figures are for the real estate in UK.
I don't quite understand why you would say that its a 30 year retirement, mathematically as long as the growth is over 4% average, the capital should never decrease and only increase. Am I missing something technically ?

Yes, you are missing something: sequence of returns risk. Suppose the long-term average return from a portfolio of investments is inflation + 4% per year. It does not follow that you can draw 4% of the starting capital per year, increasing that in line with inflation. If you get unlucky, and the portfolio is a long way down in the early years after retirement, you could end up running out of capital anyway.

E.g. for each £100,000 of starting capital, suppose you try to draw £4,000 to spend in the first year; and if inflation is 1%, you'd increase that to £4,040 in the seond year; and so on.

However, if your porfolio crashes 50% (i.e. halves) just after you retire, then you're drawing £4,000 from a portoflio of only £50,000. Suppose markets stay down for 5 years, so you've now spent £20,000 in total (even without allowing for inflation), which reduces your remaining portfolio to £30,000! But in the sixth year. there is a recovery, and the portfolio rises 100% (i.e. doubles), which cancels out the halving. So you are back to a £60,000 portfolio. But not to £100,000, which is where somebody with the same portfolio who hadn't retired yet (and so wasn't drawing from the portfolio) would be. So your draw rate would be up to about 7%, which may well not be sustainable for too long.

These accidents can happen at any time. But the longer your retirement, the more chance there is for them to happen, so the less likely it is that 4% (or any other withdrawal rate) will be sustainable without running out of money. So the length of retirement is very relevant. The studies which suggested a 4% rate might be safe were based on a 30-year retirement. But that suggests that it wouldn't be safe for a longer retirement. And for other reasons, 4% may be over-optimistic even for 30 years.

I understand that inflation has to be factored in over time with the 4% withdrawal rule. I also think that 4% is more towards of minimal growth. Overall (10 year or so average) the stock returns are usually higher than 4% although I am willing to be proved wrong based on long term historical figures.  
I also understand the market doesn't always stay in a steady linear graph, there can be extreme fluctuations so there has to be some safety net and safe investment strategies such as diversification etc to minimise damage to the capital.
Your example of a 50% drop and then to stay at that level for 5 years is a bit of an extreme example however I do understand the scenario you're trying describe. 

The CAGR for the S&P 500 (from 1926 when it was S&P 90)  with dividend reinvested is around 7.1 % once inflation has been taken into account.  With a standard deviation of 20 %.  But 

(a) you're unlikely to be invested solely in S&P 500
(b) you won't be 100 % in equities - the other asset classes you'll need to reduce volatility have lower returns
(c) those figures exclude fees
(d) currency movement will add further volatility

Even if you do get 4%, the market NEVER stays "in a steady linear graph".  If you started with £500,000, with a 4% withdrawal rate, you might end up broke mid-way through a retirement on a multi-millionaire 30 years later.  The problem is, you don't know which, so you have to come up with a strategy to cope with the uncertainty. 
 

Linton

The figure of 4%, 3.5% or whatever, of initial assets, increasing with inflation, is used for planning on the basis that it would still work in an historically worst case scenario.  However if the worst case scenario does not happen, as it almost certainly won't, you will find your assets increasing over time.  Under those circumstances it would make sense to recalculate the drawdown rate.

As you get older the the crude SWRs becomes increasingly pessimistic as they are usually calculated for something like a 30 year period.  At some point you would get a higher income with zero risk by buying an annuity.

dunstonh

I understand that inflation has to be factored in over time with the 4% withdrawal rule. I also think that 4% is more towards of minimal growth. Overall (10 year or so average) the stock returns are usually higher than 4% although I am willing to be proved wrong based on long term historical figures.  

People needing a regular income tend to invest more cautiously than those looking for growth.  So, here is the sequence of returns for a sector allocated portfolio for medium risk (around 60% equity) using benchmark figures as the returns.

20 years and annualised 5.78%.

So, if you take 2.5% of that away for inflation cover you are left with 3.28%.

Overall (10 year or so average) the stock returns are usually higher than 4% although

10 years is not long term.  That is medium term.  And the last 10 years have been far better than a typical 10 year period.  Take a look at the charge and compare 2000 to 2009 with 2010-2019

Your example of a 50% drop and then to stay at that level for 5 years is a bit of an extreme example

But possible and has happened.     However, take the early 2000s.  A 43% drop from peak to trough over a 3 year period with no value gained in 5 years.  With a level 4% withdrawal, you would be around 35% lower than 5 years earlier.

Thrugelmir

twister_teddy said:

dont_look_now said:

twister_teddy said:

That's kind of the problem that I am having, most of the FIRE related content I find is focused for US.  Is there a good source, calculators focused around UK laws and market dynamics. 
Most of the shares I've invested are global funds, so I understand that average growth needs to be over 4% (which it is) and similar historical figures are for the real estate in UK.
I don't quite understand why you would say that its a 30 year retirement, mathematically as long as the growth is over 4% average, the capital should never decrease and only increase. Am I missing something technically ?

Yes, you are missing something: sequence of returns risk. Suppose the long-term average return from a portfolio of investments is inflation + 4% per year. It does not follow that you can draw 4% of the starting capital per year, increasing that in line with inflation. If you get unlucky, and the portfolio is a long way down in the early years after retirement, you could end up running out of capital anyway.

E.g. for each £100,000 of starting capital, suppose you try to draw £4,000 to spend in the first year; and if inflation is 1%, you'd increase that to £4,040 in the seond year; and so on.

However, if your porfolio crashes 50% (i.e. halves) just after you retire, then you're drawing £4,000 from a portoflio of only £50,000. Suppose markets stay down for 5 years, so you've now spent £20,000 in total (even without allowing for inflation), which reduces your remaining portfolio to £30,000! But in the sixth year. there is a recovery, and the portfolio rises 100% (i.e. doubles), which cancels out the halving. So you are back to a £60,000 portfolio. But not to £100,000, which is where somebody with the same portfolio who hadn't retired yet (and so wasn't drawing from the portfolio) would be. So your draw rate would be up to about 7%, which may well not be sustainable for too long.

These accidents can happen at any time. But the longer your retirement, the more chance there is for them to happen, so the less likely it is that 4% (or any other withdrawal rate) will be sustainable without running out of money. So the length of retirement is very relevant. The studies which suggested a 4% rate might be safe were based on a 30-year retirement. But that suggests that it wouldn't be safe for a longer retirement. And for other reasons, 4% may be over-optimistic even for 30 years.

I understand that inflation has to be factored in over time with the 4% withdrawal rule. I also think that 4% is more towards of minimal growth. Overall (10 year or so average) the stock returns are usually higher than 4% although I am willing to be proved wrong based on long term historical figures.  

Find a copy of the Credit Suisse year book. Will help dispel any myths. 

coyrls

twister_teddy said:

Eco_Miser said:

twister_teddy said:

What about the scenario when you're retiring to a different country and you don't want to buy a house there. 
Why can't you sell or rent your current residential in UK before retiring abroad. 
What about the investment properties which are bringing in a certain yield every year. 
I don't understand why all the FIRE net worth need to be in liquid assets. The yield on the real estate is comparable to the income from the invested stocks.
Indeed I am factoring in the rental costs abroad in my burn rate.

You can do what you like, but if your investment properties aren't bringing in at least 4% after all expenses you're going to have problems with them at some stage.

NB. The '4% rule' is based on somewhat out of date US figures and a 30 year retirement. Longer retirements and UK investments both suggest a lower percentage, perhaps only 2%

That's kind of the problem that I am having, most of the FIRE related content I find is focused for US.  Is there a good source, calculators focused around UK laws and market dynamics. 
Most of the shares I've invested are global funds, so I understand that average growth needs to be over 4% (which it is) and similar historical figures are for the real estate in UK.
I don't quite understand why you would say that its a 30 year retirement, mathematically as long as the growth is over 4% average, the capital should never decrease and only increase. Am I missing something technically ?

The 4% "rule" has never been about preserving capital, success is defined as not running out of money over a 30 year period.  4% refers to 4% of the initial value of the portfolio increased by inflation each year.  Obviously if you withdrew 4% of the current value of the portfolio every year, you would never run out of money but you would have a wildly fluctuating income.

Eco_Miser

For UK focussed content see Monevator. In particular see https://monevator.com/why-the-4-rule-doesnt-work/ for a discussion on the 4% rule.  Read the comments, dig through the archives,  follow links to other blogs, there's lots of UK FIRE stuff about.