Taking a $100,000 nest egg and withdrawing an inflation adjusted $10,000 each year left the account with $76,629 at the end of 2003. Not bad.
However, the article then reverses the order of the returns, starting at 2003 and going to 1987. While the average annual return is still 13.47%, the account balance after 17 years is -$187,606. The reason is that negative returns in years 2-4 significant reduce the account, while withdrawals are being made. Since the money is withdrawn, it can't help the account recover in later years.
I think there are two lessons to be learned from this article:
- Use probability analysis to determine the nest egg needed. The current best approach is Monte Carlo analyses that run a thousand scenarios with randomized returns. The analysis of our savings shows we have about a 90% chance of not outliving our savings.
- Adjust spending with market returns. Simply, spend below target in the years that returns are down and spend above target in the high return years. That way savings are preserved in down years, allow them to recover when the market has a good year.
The other strategy we are using is to have 3 -5 years of expenses in short term (3-5 years) fixed income investments. By doing this, we guarantee that we don't have to sell low to create income. And if the market does well, we can spend a little bit more :-) For more on Reaping the Rewards Reflections , check back every Friday for a new segment.
This is not financial advice. Please consult a professional advisor.
Copyright © 2008 Achievement Catalyst, LLC