An Updated 4% Rule

Michael Kitces, blogger and head of planning strategy at Buckingham Wealth Strategies, recently interviewed Bill Bengen, the “father” of the 4% rule, the “safe” withdrawal rate for retirement savings.

In the discussion, he stated he used 4.5% instead for his clients. In fact, with inflation as low as it is today, he told Kitces the safe withdrawal rate may be closer to 5%. But we wouldn’t know for sure for another 30 years based on how he conducted his research.

In the podcast, Bengen stated that at the time of his research, early 90’s, there were primarily two asset classes: large-cap stocks and intermediate government bonds, today of course there are many more investment opportunities.

He told Kitces his thoughts about today: “Right now, I would not be recommending 4.5% to clients as a starting point. Depending upon the inflation level and the level of the market, I might be up to 13%, which historically, there were periods of time when you could take withdrawals that high.”

“It’s not a great time to be taking high withdrawals now with the market so expensive, but it’s not awful either because inflation is very low. I think somewhere in 4.75%, 5% is probably going to be OK. We won’t know for 30 years, so I can safely say that in an interview.”

Where did the 4% rule even come from…

                 In the early 1990s Bill set out to really answer a question “What is a “safe” rate of withdrawal for a client to take from their investment assets in retirement that will last them 30 years?” He never set out to establish a rule of thumb but from his research the 4% withdrawal rate actually became a Rule of Thumb used by many financial professionals and clients even today.

 How the Rule came about….

                Bill arrived at the percentage by experimenting with portfolios of different allocations of stocks and bonds as well as market returns. He began taking it down to the percentage that allowed for a safe withdrawal for 30 years. The percentage was 4.15%, which is actually the worst-case scenario not what worked in the average scenario.

                 An important thing to note is that when Bill was doing his research in the early 1990s the economy was coming out of double-digit inflation environment and he was also working with only two asset classes.

 Is the 4% Rule still applicable…

                 In today’s investment world we have many investment options and opportunities. In conducting research for his new book in 2005 he actually revised his research and the 4% Percent Rule became the 4.5% Rule.

 Some things that stand out…

                 A Rule of Thumb is a great way to start the conversation and provide some guidance however it is not applicable to everyone or every situation. For example, some people may have pensions and require less while other live in states where they offer great municipal bonds if they are willing to take those on. While the market is higher do you need to take that “bonus” and take out the full 4.5+% and on the flip side while the market is down are you able to cut back for a little while to market recovers to limit losses to your overall portfolio and increasing the likelihood of you reaching 30 years or more into retirement.

Bengen concludes that the break-even point for portfolios and real withdrawal rates is the sum of the withdrawal and the inflation rates. In this case it would be 6%. As he notes, Bengen understood “when the numbers can serve as guides and when they should only be guidelines

I believe that the amount of any distribution from a portfolio depends on many factors including your overall investment goals and risk tolerance. The current market environment and inflation rates. This is why Goal – based financial planning is so important and testing for the “what ifs” in life. I truly believe that in today’s market and economic environment financial planning is more important than ever.

For another take on this check out one of my favorite YouTubers Graham Stephan’s who covers his take on the new insight to the 4% rule.

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