Balanced Portfolio for Retirement: Re: Balanced portfolio inquiry

» Kirk - Re: Balanced portfolio inquiry

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In response to message posted by darby43:

In the first year, the portfolio only seems to yield about $4,000 profit before rebalancing; in the second there's a net loss. Where does the income come from?

Darby

I’m sorry that article is not clearer. I should probably rewrite it as Happy (Norman Grib) pointed out; I neglected to subtract the withdrawal for living expenses in my example when I gave the total return number.

The example I gave for a $1M portfolio attempted to show how you can get $40,000 or 4% of the total by using what is called a “total return approach.” In some years, especially after a severe bear market, the portfolio will take a major hit in net asset value (go down) if you continue to spend at the same rate.

I’ve found an exceptional article that explains it very well.

Retirement Savings: Choosing a Withdrawal Rate That Is Sustainable

Table three in that article gives the results for a Monte Carlo simulation for inflation adjusted portfolio success rates between 1926 and 1995. The conclusion is a 50:50 portfolio will have a 95% chance of lasting 30 years if you draw it down at a 4% rate. The odds for success increase to 100% if you “only” take out 3% a year.

What is most interesting about the table is it shows a higher equity weighting of 75:25 increases the odds of success for a 4% withdrawal rate from 95% to 98% for a 30 year period!

Rande Spiegelman wrote a similar article Build Your Retirement Portfolio to Last that concludes:

For every $1,000 of monthly portfolio withdrawals in your first year of retirement, you could need to have saved as much as $300,000. In other words, in order to have a beginning annual portfolio withdrawal of $40,000 that keeps pace with inflation over your retirement time horizon, you would need to have approximately $1 million socked away by the time you retire.

These calculations are good in theory, but in practice I recommend people establish a “2 year cushion” and call this their “cash reserves bucket.” This reserve is kept outside your portfolio and is not used for allocation calculations. The idea here is you rebalance your portfolio quarterly where you take out 1% (on the 4% plan) and buy a 2 year CD to “recharge” your 2 year cash reserves fund that you use to pay living expenses. The idea is every quarter a 2 yr CD matures which you use for paying your living expenses. IF the stock market has a severe bear market, then you greatly increase your odds of having your portfolio last if you can avoid spending it down. This 2 year reserve “bucket” that is outside your portfolio gives you a cushion where you can try to stretch your dollars out to 3 or 4 years or even get a part time job if you are worried.

I’d like to recommend you join our Critical Mass - Care and Feeding For discussion group where we discuss books and different portfolios that people are using for their retirement portfolios.

-- posted by Kirk