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Your Safe Withdrawal Rate Is Probably Wrong

An important question commonly asked by retiree’s is: what’s a safe withdrawal rate from my investment portfolio so the assets will last a lifetime? If each of us knew how long we would live, the math would be much easier. When people are living longer, their money has to last longer. Adding to the calculus, the portfolio earnings rate is unknown and cost of living seems to always be increasing. So what is a safe amount?

In the early 1990’s the recommended annual withdrawal rate might have been 5%. Therefore, if someone had a portfolio of $400,000, they believed a safe amount of $20,000 could be withdrawn each year and it would last throughout their lifetime. At the time, Interest rates were significantly higher and the assumed rates of return in the stock market also higher. Although the stock market has moved higher, interest rates have moved significantly lower. With this in mind, is 5% still a good number?

Now, several articles are suggesting the safe withdrawal rate should now be 3% (see here and here). If a retiree has a large nest egg, or if their pension and social security will cover living expenses this issue may not be critical. However, if they are relying on their nest egg to last the withdrawal rate is extremely important.

If the stock market and bond prices were to correct from the all-time highs we are currently experiencing, the experts might need to adjust this magic number again. Translating, the retiree would have less to spend annually or would need to adjust how long they should live. For those relying on their nest egg, those are not attractive options.

The purpose of this article is not to explain the obvious or add additional stress. With the stock market and bond prices at historic highs, this might be a good time to address this topic. Adjustments in your portfolio might be better made now rather than later if prices decline.

Please leave your opinion in the comment section below. 

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