Retirement drawdown: Use cash buffer first or drawdown proportionally?

Linton

coastline said:

Does anybody want to analyse what they would have done over the last 5 years . I read many threads on SWR etc yet we don't get many real world examples. Use the simple portfolio below of global index and UK Gilt fund. Set an asset allocation. CPI is there on the chart as will be needed for annual increases. What I see straight away is the 2020 pandemic crash but it recovered quickly which is a bit unusual really. How is income to be withdrawn eg annually or monthly. ? If you'd taken your income annually then maybe the index would have recovered before any cash buffer was needed ?

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I can tell you what I did in terms of drawdown over the past 5 years ...

1) Tweaked fund allocations within Growth portfolio to improve diversification
2) Increased allocation to Income portfolio vs growth portfolio as a reaction to inflation.
3) Paid off part of RIO mortgage from Growth portfolio to go for lifetime fixed rate rollup Equity Release a few months before interest rates shot up.  This reduced ongoing expenditure.

What hasn't changed is our day to day standard of living.  Our expenditure has risen significantly since Covid thanks to one-off holidays, largely paid out of excess money in the low risk buffer arising from reduced expenditure on  mortgage payments and less opportunity for expenditure during Covid  At no point have I had any concerns at all about our finances, so switching income streams or cutting expenditure never crossed my mind.

What I dont understand is criticising buckets as providing no benefit.  As regards investment returns, true, it wont make much difference and may even decrease them.  But as long as one is getting the returns needed to continue living in the way one is accustomed for the rest of ones life why chase more?  Better to reduce risk, that is a very real benefit.

NoMore

Your assumption that a no bucket strategy is about chasing more gains is wrong. You reduce risk in a no bucket strategy by your overall asset allocation. 

You’ve already admitted previously that your whole portfolio is probably equivalent to a 60 40 equity split, now I’m not sure if you mean equivalent in the actual split or in the performance of but that essentially doesn’t matter So the argument is instead of bucketing just set your whole portfolio to a 60 40  asset allocation and rebalance on withdrawal. 

People seem to have an aversion to selling equities in a down turn so cash buffers and buckets are designed to help alleviate that aversion but that’s just a psychological problem, According to the no bucket strategist it doesn’t actually have any material benefit beyond that. 

Note I didn’t really want to criticise any one individuals portfolio, at the end of the day people should do what is right for themselves.

i am still currently on the fence about what to do when it comes to drawdown but are leaning towards the simple overall portfolio allocation and re balance on withdrawal method. We will see,  perhaps I am not as mentally tough as I think I am when a downturn happens. 

Linton

NoMore said:

Your assumption that a no bucket strategy is about chasing more gains is wrong. You reduce risk in a no bucket strategy by your overall asset allocation. 

You’ve already admitted previously that your whole portfolio is probably equivalent to a 60 40 equity split, now I’m not sure if you mean equivalent in the actual split or in the performance of but that essentially doesn’t matter So the argument is instead of bucketing just set your whole portfolio to a 60 40  asset allocation and rebalance on withdrawal. 

People seem to have an aversion to selling equities in a down turn so cash buffers and buckets are designed to help alleviate that aversion but that’s just a psychological problem, According to the no bucket strategist it doesn’t actually have any material benefit beyond that. 

Note I didn’t really want to criticise any one individuals portfolio, at the end of the day people should do what is right for themselves.

i am still currently on the fence about what to do when it comes to drawdown but are leaning towards the simple overall portfolio allocation and re balance on withdrawal method. We will see,  perhaps I am not as mentally tough as I think I am when a downturn happens. 

Selling equities in a downturn is far more than purely a psychological problem.  It is a major factor behind the concepts of the SWR and the Sequence of Returns risk, and the reason for expenditure reducing strategies like Guyton Klinger. 

Risk is controlled very broadly by overall allocations and more specifically by ones management strategy for dealing with equity volatility. The objective of any bucket strategy is to reduce the long term effects of short and medium term equity volatility. My proposals aim to take this as far as possible by reducing the need for continuous selling of equity to a minimum.

GazzaBloom

@Linton I'm still unclear as to how your approach works in practice, you say you use the middle mid term bucket to generate income, does that need to generate enough income to cover topping up a full years drawdown from the cash buffer? If so, at say 5% income generation it would need to be a very large bucket. To avoid the risk of having to sell stocks as they fall your income bucket needs generate enough income to cover your annual expenses doesn't it?

for example, let's say you need to draw down £30K a year, how would you position assets and how much in each?

Bucket 1 £90K  - 3 years worth of cash or cash equivalent
Bucket 3 £600K - income generating stocks, bonds? Giving say 5% (£30K)
Bucket 3 ?? - growth stocks for inflation matching/beating?

Linton

GazzaBloom said:

@Linton I'm still unclear as to how your approach works in practice, you say you use the middle mid term bucket to generate income, does that need to generate enough income to cover topping up a full years drawdown from the cash buffer? If so, at say 5% income generation it would need to be a very large bucket. To avoid the risk of having to sell stocks as they fall your income bucket needs generate enough income to cover your annual expenses doesn't it?

for example, let's say you need to draw down £30K a year, how would you position assets and how much in each?

Bucket 1 £90K  - 3 years worth of cash or cash equivalent
Bucket 3 £600K - income generating stocks, bonds? Giving say 5% (£30K)
Bucket 3 ?? - growth stocks for inflation matching/beating?

Yes because  of the bottleneck of income generation for higher % withdrawals it will be necessary to have some growth portfolio to cash transfer possibly taken annually. However this would be at a much lower level than if all income was taken from one portfolio. Taking your example a drawdown of £30k could require a pot of £900k.

So one could split the portfolio as say 

Bucket 1 £100k generating £2.5k interest
Bucket. 2 £450 k generating £22.5k income
Bucket  3 £350k generating £5k to ensure that bucket 2 increases with inflation.

Bucket 1 need only or mainly cover the money coming from growth since income is assumed to be safe over the short to medium trrm. So ignoring inflation Bucket 1 could cover say >10 years, or more usefully significant one-off expenditure.

This is from just an example from a few minutes thought. There is a wide range of flexibility in the numbers.

GazzaBloom

Linton said:

GazzaBloom said:

@Linton I'm still unclear as to how your approach works in practice, you say you use the middle mid term bucket to generate income, does that need to generate enough income to cover topping up a full years drawdown from the cash buffer? If so, at say 5% income generation it would need to be a very large bucket. To avoid the risk of having to sell stocks as they fall your income bucket needs generate enough income to cover your annual expenses doesn't it?

for example, let's say you need to draw down £30K a year, how would you position assets and how much in each?

Bucket 1 £90K  - 3 years worth of cash or cash equivalent
Bucket 3 £600K - income generating stocks, bonds? Giving say 5% (£30K)
Bucket 3 ?? - growth stocks for inflation matching/beating?

Yes because  of the bottleneck of income generation for higher % withdrawals it will be necessary to have some growth portfolio to cash transfer possibly taken annually. However this would be at a much lower level than if all income was taken from one portfolio. Taking your example a drawdown of £30k could require a pot of £900k.

So one could split the portfolio as say 

Bucket 1 £100k generating £2.5k interest
Bucket. 2 £450 k generating £22.5k income
Bucket  3 £350k generating £5k to ensure that bucket 2 increases with inflation.

Bucket 1 need only or mainly cover the money coming from growth since income is assumed to be safe over the short to medium trrm. So ignoring inflation Bucket 1 could cover say >10 years, or more usefully significant one-off expenditure.

This is from just an example from a few minutes thought. There is a wide range of flexibility in the numbers.

Thanks.

So, a portfolio allocated (roughly using your example) 10% cash / 50% income (bonds/income stocks) / 40% growth stocks.

I still can't get my head round any real advantage over drawing 5% proportionally from each allocation and rebalancing annually other than being able to strategically choose timing when you drawdown from the growth stocks allocation.

MK62

Linton said:

GazzaBloom said:

@Linton I'm still unclear as to how your approach works in practice, you say you use the middle mid term bucket to generate income, does that need to generate enough income to cover topping up a full years drawdown from the cash buffer? If so, at say 5% income generation it would need to be a very large bucket. To avoid the risk of having to sell stocks as they fall your income bucket needs generate enough income to cover your annual expenses doesn't it?

for example, let's say you need to draw down £30K a year, how would you position assets and how much in each?

Bucket 1 £90K  - 3 years worth of cash or cash equivalent
Bucket 3 £600K - income generating stocks, bonds? Giving say 5% (£30K)
Bucket 3 ?? - growth stocks for inflation matching/beating?

Yes because  of the bottleneck of income generation for higher % withdrawals it will be necessary to have some growth portfolio to cash transfer possibly taken annually. However this would be at a much lower level than if all income was taken from one portfolio. Taking your example a drawdown of £30k could require a pot of £900k.

So one could split the portfolio as say 

Bucket 1 £100k generating £2.5k interest
Bucket. 2 £450 k generating £22.5k income
Bucket  3 £350k generating £5k to ensure that bucket 2 increases with inflation.

Bucket 1 need only or mainly cover the money coming from growth since income is assumed to be safe over the short to medium trrm. So ignoring inflation Bucket 1 could cover say >10 years, or more usefully significant one-off expenditure.

This is from just an example from a few minutes thought. There is a wide range of flexibility in the numbers.

Hmmm.......it seems to me that £5k from bucket 3 won't come close to ensuring that bucket 2 increases with inflation....(or do you mean bucket 1).......and even so, don't you still have the same old issue of potentially selling equities from bucket 3 in a down market?

Linton

MK62 said:

Linton said:

GazzaBloom said:

@Linton I'm still unclear as to how your approach works in practice, you say you use the middle mid term bucket to generate income, does that need to generate enough income to cover topping up a full years drawdown from the cash buffer? If so, at say 5% income generation it would need to be a very large bucket. To avoid the risk of having to sell stocks as they fall your income bucket needs generate enough income to cover your annual expenses doesn't it?

for example, let's say you need to draw down £30K a year, how would you position assets and how much in each?

Bucket 1 £90K  - 3 years worth of cash or cash equivalent
Bucket 3 £600K - income generating stocks, bonds? Giving say 5% (£30K)
Bucket 3 ?? - growth stocks for inflation matching/beating?

Yes because  of the bottleneck of income generation for higher % withdrawals it will be necessary to have some growth portfolio to cash transfer possibly taken annually. However this would be at a much lower level than if all income was taken from one portfolio. Taking your example a drawdown of £30k could require a pot of £900k.

So one could split the portfolio as say 

Bucket 1 £100k generating £2.5k interest
Bucket. 2 £450 k generating £22.5k income
Bucket  3 £350k generating £5k to ensure that bucket 2 increases with inflation.

Bucket 1 need only or mainly cover the money coming from growth since income is assumed to be safe over the short to medium trrm. So ignoring inflation Bucket 1 could cover say >10 years, or more usefully significant one-off expenditure.

This is from just an example from a few minutes thought. There is a wide range of flexibility in the numbers.

Hmmm.......it seems to me that £5k from bucket 3 won't come close to ensuring that bucket 2 increases with inflation....(or do you mean bucket 1).......and even so, don't you still have the same old issue of potentially selling equities from bucket 3 in a down market?

1 - The main purpose of the Grtowth bucket is to ensure that the income bucket increases with inflation over the long term by buying  extra income generating investrments.  This is done at the strategic level less frquently than once per year and is never time critical.

2 - Yes equities could still be sold when markets are down but it should never be urgent to maintain standard of living.  The near to cash portfolio could support an extra £5K withdrawal for many years.  In any case a regular 1.4% withdrawal represents much less of a SOR concern than a 3.3% one.

GazzaBloom

Talking of SWRs most of the research I've seen assumes the SWR percentage is fixed for the duration of a retirement, I don't see much research that allows for state pension payments reducing the SWR requirements significantly after say first 8 years if taking an early retirement before state pension age.

The challenge in this front end loaded scenario is setting an SWR that is not too safe based on these SP payments coming online down the track but not too high as to risk going bust in a bad early sequence of returns.

This one of the dilemmas I am musing on. As @Linton suggests, setting a safe SWR could see an excess of money building up as retirement goes on at the wrong end of when you probably need it.

Linton

GazzaBloom said:

Linton said:

GazzaBloom said:

@Linton I'm still unclear as to how your approach works in practice, you say you use the middle mid term bucket to generate income, does that need to generate enough income to cover topping up a full years drawdown from the cash buffer? If so, at say 5% income generation it would need to be a very large bucket. To avoid the risk of having to sell stocks as they fall your income bucket needs generate enough income to cover your annual expenses doesn't it?

for example, let's say you need to draw down £30K a year, how would you position assets and how much in each?

Bucket 1 £90K  - 3 years worth of cash or cash equivalent
Bucket 3 £600K - income generating stocks, bonds? Giving say 5% (£30K)
Bucket 3 ?? - growth stocks for inflation matching/beating?

Yes because  of the bottleneck of income generation for higher % withdrawals it will be necessary to have some growth portfolio to cash transfer possibly taken annually. However this would be at a much lower level than if all income was taken from one portfolio. Taking your example a drawdown of £30k could require a pot of £900k.

So one could split the portfolio as say 

Bucket 1 £100k generating £2.5k interest
Bucket. 2 £450 k generating £22.5k income
Bucket  3 £350k generating £5k to ensure that bucket 2 increases with inflation.

Bucket 1 need only or mainly cover the money coming from growth since income is assumed to be safe over the short to medium trrm. So ignoring inflation Bucket 1 could cover say >10 years, or more usefully significant one-off expenditure.

This is from just an example from a few minutes thought. There is a wide range of flexibility in the numbers.

Thanks.

So, a portfolio allocated (roughly using your example) 10% cash / 50% income (bonds/income stocks) / 40% growth stocks.

I still can't get my head round any real advantage over drawing 5% proportionally from each allocation and rebalancing annually other than being able to strategically choose timing when you drawdown from the growth stocks allocation.

Yes to the asset allocation. So if the income portfolio was 50% equity that would give rather higher than 60% equity overall.  Also cash is not necessarily cash.  In my case perhaps 50% is currently Wealth Peservation funds though now that 5% interest is available I am considering moving over to fixed interest. 

Some of the advantages for me are:
1) All ongoing activity can be automated.  In particular income from dividends/interest is paid directly from an S&S ISA into my current account, which is regarded as part of the cash bucket. So in practice not very different to extra pension.  Top level management is only required every few years.
2) A large amount of near to cash available for flexibility in one-off expenses.  This is thanks to the relative safety of income investments.  So we can take major holidays when we feel like it without pre-planning finances or waiting to have saved up enough money.
3) There is no direct link from selling investments to day-to-day expenditure.  All income both generated and from guaranteed pensions goes into the cash bucket and all expenditure comes from the cash bucket.  This means that selling of investments is never required to maintain income over the medium term.  This is the "no sleepless nights" benefit as the short/medium term performance of the growth bucket can be largely ignored as can the capital value of the income bucket. 
4) Since buckets are designed for a specific job their asset allocations and sizes are pretty much predetermined.The overall asset allocation is automatically what it needs to be to meet all one's requirements.  On what basis do you decide on the %'s in a single portfolio intended to do everything?

One downside is that it takes significant work to set up in the first place in designing and sizing the buckets to meet their objectives.

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