All investors deserve the facts and should not be given puffed-up expectations that can lead to much anxiety and stress. According to Ibbotson Associates, since 1971 through 2000, the S&P 500 had an average annual rate of return of 13.2 percent, Ibbotson Small Company Index did 14.7 percent, and MSC-International EAFE Index did 13.1 percent. In only eight of the past thirty years did the S&P 500 fall below a 6 percent annual return. Yet even with these terrific returns, a 4 percent to 6 percent annual withdrawal may be an appropriate beginning withdrawal rate. Some advisors, such as Bill Bengen in El Cajon, California, have argued that even with an optimal stock and bond mix—60 percent large-cap stocks, 40 percent intermediate government bonds—you should begin with a 3.9 percent withdrawal rate the first year (adjusting that rate each year for inflation) so as to not run out of money.
Since 1994 Mr. Bengen has been studying the problem of withdrawal rates versus investment return. More recently, he ran investment scenarios using portfolios ranging in asset allocations of 0, 25, 50, 75, and 100 per-cent stocks and 100, 75, 50, 25, 0 percent invested in intermediate treasury bonds. These five asset allocations were tested using initial withdrawal rates of 1, 2, 3, 4, 5, 6, 7, and 8 percent the first year. Using actual historical data from 1926 through 1992, he found that an appropriate asset allocation for a retiree’s portfolio must include no less than 50 percent (and up to 75 per-cent) in stocks. He writes, “Stock allocations lower than 50 percent are counterproductive, in that they lower the amount of accumulated wealth as well as lowering the minimum portfolio longevity” (Journal of Financial Planning, October 1994, p. 176). Bill admits that such a low initial withdrawal rate, 3.9 percent, may be unacceptable for many people whose number one goal for these assets is to create income during retirement. But since leaving an estate to a spouse (or heirs) is important to most of us, having some assets last a long time is a goal to consider as well. Finding the balance between stocks and bonds and between expected returns and withdrawal rates is the investor’s greatest challenge.
Tags: investment