Inflation and retirement plans

bostonerimus

jim8888 said:

Bostonerimus says "There's a lot to be said for removing costs from your budget as you approach retirement because it removes income generation stress from your portfolio and ultimately from you."

I think about that quite a lot now that I've retired. I could clear quite a bit of debt, such as the mortgage and the car finance that we have. Doing that would effectively half my monthly expenditure, but then I wouldn't be earning the interest on that six figure sum, which exceeds the interest I'm paying on the finance! I think the market will inevitably crash (but when and for how long!?) and I'll still have the debt, hence the "income generation stress". I kind of suspect clearing my debt might not be the optimum financial move today, but I feel it would wipe a lot of financial stress from the back of my mind for tomorrow.

Clearing the debt while you are still working is what I was suggesting. If you assume 10% annual investment returns and have a 3% mortgage then obviously paying down the mortgage is not the right choice from a simple arithmetic point of view, but there is more to consider; like inflation; market crashes and reducing risk and stress. Paying off the mortgage was a derisking tactic and I thought of it as putting some of my money into fixed income that paid me 3% interest. I made the strategic decision to go into retirement entirely debt free and also did some major house repairs and bought a new car while I was still earning. This means I have great control over my spending and it is quite low and I can stay aggressive in my retirement investing because I don't need to generate much income and don't mind if I lose money. So I slept ok through the Covid crash even with 80% equities in my portfolio.

jamesd

bostonerimus said:

A retirement plan should include some form of index linked income to give a solid foundation and also a plan to cut expenses when returns are poor

If safe withdrawal rates are being used this cutting isn't necessary for routine bad events and even quite sustained drops because those are already set for a repeat of the worst historic case. You've started low and it's upside adjustments if the repeat of the worst doesn't happen that is likely.

Clearing debt that's expensive compared to returns can be useful. Personally I expect to choose to keep inexpensive mortgage debt throughout retirement, partly as a result of Wade Pfau's work on the possible benefits of that.

Reducing overall cost base through things like investment in insulation and efficiency can pay well because of the normally quite long time horizon involved.

bostonerimus

If the inflation the retiree experiences is worse than the data used in the SWR model then things might have a higher probability of failure. Extended high inflation would be bad and is why I like the plans with variable withdrawal rates that can react to significant deviations from the historical statistics. Whether inflation variation is strategically baked into your withdrawal at the start or you deal with it by tactically reducing your withdrawal, you must have a plan to deal with it. My perspective was to think of my mortgage repayments as part of my fixed income allocation and to reduce my retirement spending to a level that would be easily covered by my index linked DB pension and rental income so I could follow another Wade Pfau strategy of a high and rising equity allocation in retirement. It also means that I've greatly reduced my tax bill. However, paying down a mortgage when interest rates are so low is always a debatable point - maybe it won't be so debatable in the near future....