Monday, July 22, 2013

Retirement Income - Safe Withdrawal Rate



How much can you withdraw from your retirement and never run out of money? 

 

You tell me how long you are going to live and how much money you are going to spend each year and I can calculate a reasonable safe withdrawal rate.   But, no one has the answers to those questions.
 




Baby boomers who are about to face life without a paycheck have to figure this out. About.com has a very good article on this subject; it is a quick review and point outs some of the many variables that soon to be retirees face.  It is worth your time to read it. http://retireplan.about.com/od/alreadyinretirement/a/safe_withdrawal_rate.htm



Portfolio Value – Withdrawal Rate


Two points in this article should make you think.   One is the effect your portfolio value will have on your safe withdrawal rate.   For instance if you retired in 2007, the value of your portfolio would have been much greater than if you retired in 2008.  Just one year difference and the amount of money you have to live on significantly changes your way of life.     I don’t think many investors really understand that point.   Most people think that since their portfolio has gone up about 10 percent every year since the crash in 2008 and it will continue to deliver those returns.    This is a foolish assumption.


The other point of emphasis is that a four percent withdrawal rate is a commonly accepted safe rate of withdrawal.   The experts have spent many hours forecasting the rate of withdrawal based on life expectancies and portfolio health.  This article is correct, a four percent withdrawal rate is accepted as a good rule of thumb.



Let Your Savings Do the Work



I have a different take on the matter.   I believe you can manage a portfolio of dividend stocks and bonds that can create four percent.   Therefore, if you can live on four percent, you need not ever tap your principle.   Moreover, it will not matter how much the investments are worth.  Your portfolio value can gyrate wildly and still you get the four percent.   Because your savings are doing the work, they create the necessary money you need to live on without having to dip into your retirement savings.   Check out my 2013 portfolio of dividend stocks.2013 Dividend Stocks - does not include bond or calls.



What Investments?



Stocks that pay dividends and bonds that pay interest are the investments that can deliver four percent for your retirement income.  In this blog I concentrate on companies that deliver consistent and ever increasing dividends.  Many of these companies also have covered call option income potential.  In addition I use carefully selected bonds.  



I use four criteria to select my dividend stocks.   I use covered call options on many of these stocks to create more income and to help me take profit and reinvest for more cash flow.  I also like below par bonds.  Bonds, however, are very expensive in 2013.   Yet, a good bond comes available now and then such as the Alcoa Bond I covered in my post on June 24, 2013. http://www.themoneymadam.com/2013/06/bonds-alcoa-bond-for-your-retirement.html  



Follow an Investment Discipline



I find that ordinary investors can learn how to manage a portfolio of dividend stocks when they have a disciple to follow.   With experience, ordinary investors can learn to safely use covered call options to improve portfolio return.   Bonds are not difficult to understand, but they are difficult to find.    Ordinary investors should get to know the bond desk at their brokerage and work with them to find bonds that deliver greater income than a dividend stock; with spread out maturities, and that sell at a discount to par.  They’ll do the work for you, it is their job.  It is your job to decide which bonds to actually buy.   



To be fair, real estate, preferred securities, and annuities are income instruments that many investors use.   These are much more complex than stocks and bonds.   I do not cover those instruments in this blog.    
 

I know this much, a carefully selected portfolio of stocks and bonds can deliver enough income to make worrying about the “safe withdrawal rate” unnecessary.



TheMoneyMadam