The Issue of Rate of Return
If one were to assume that one could get an 8% average rate of return and that one were to retire at 65, and have to contend with 4% inflation, one could possibly argue for a 5% or 6% withdrawal rate since this could last until ages 103 or 92 respectively. There are of course problems with this. One of the majorly cited problems is what if you have bad returns your first couple of years? The idea behind this is that if you are taking money out of a portfolio when it is down at the very beginning, one may never recover and become penniless well before one passes away. One of the other problems I alluded to in my article on rate of return. Long term rates of return have fluctuated significantly depending on the time period you examine.
It could be entirely possible to go through a long period of time with only a 6% average rate of return and have to contend with 4% inflation which changes the scenario significantly. In this case if one were to take out at a 5% or 6% withdrawal rate one would run out of money at ages 93 and 88 respectively. A graphic representation of the effects of pulling out various percentages from a million dollar portfolio assuming a 6% average return and 4% inflation with various percentage withdrawal rates can be seen below. It must be noted that these rates do not assume fluctuation in performance of investments. To reiterate, down markets can happen at the beginning of one’s retirement and quite negatively affect the overall performance of one’s retirement portfolio. Having safeguards against this event would seem prudent. Without some form of safeguard, it could be possible that a 4% withdrawal rate would not be sustainable.
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