How to Beat the 4% Rule – A wealth of common sense

About half of them are currently retired.

From now until the end of this decade, nearly twelve thousand boomers will retire every day.

This group controls more than $85 trillion in wealth.

Not all that wealth will be spent. Much of it will be passed on to future generations.

But solving the pension spending puzzle will be one of the key challenges for financial advisors and investors alike in the coming years.

There is no scientific method for this process. It is a game of expectations, estimates, guesses, plans and course corrections.

As a self-proclaimed financial nerd, I enjoy delving deeper into the different options when it comes to spending your portfolio.

Last summer I spoke with Bill Bengen, the father of the 4% spending rule.

Last month I shared a blog post by John Thees about his four-year reign.

Every time I write or talk about this kind of thing, there are people who make comments, questions, concerns, and their own adjustments to the models. It makes sense that people are constantly tinkering and building on retirement spending methods because there is no one-size-fits-all strategy. Like most financial advice, this decision is personal and indirect.

Stefan Sharkansky decided to throw his hat in the ring with a new research paper titled The only other expense line item you’ll ever need.

I like this goal from the article’s introduction:

Few have adequately explained how to satisfactorily avoid both the rock of outliving their assets and the predicament of chronic underspending.

Therein lies the problem for most retirees: how do you balance longevity risk with the risk of underspending?

Sharkansky’s model contains some elements of the four-year rule and some variable elements of the 4% rule.

Here’s how it works:

There are two primary assignments. The growth bucket is a stock index fund. The spending basket is a ladder of Treasury Inflation-Protected Securities (TIPS).

The TIPS provide relatively stable, inflation-protected income, while the stocks provide more variability and growth. The division between shares and bonds depends on how many years of fixed-income securities you need or want.

The goal would be to set up a ladder of TIPS so that the maturing bond each year acts as your fixed income expense for the year. There is also a variable spending component that is recalculated every year based on the amount of money you have in stocks (it’s a percentage of the total).

So there is a fixed and a variable component, where the variable component acts something like an annuity or a required minimum payment, which ensures that you actually spend your savings.

However, that variable component requires some flexibility because it means higher spending levels when the stock market is rising and lower spending levels when the stock market is falling.

The 4% rule was created to protect against the worst-case scenario. Most of the time, the worst-case scenario doesn’t happen, so you end up underspending based on your portfolio’s potential. That was what Sharkansky tried to avoid with his strategy.

As with most financial decisions, there are always tradeoffs. There are also some surprising findings in his article, such as the fact that a 100% stock portfolio would actually have led to better results than a balanced portfolio.

Stefan came with me Talk about wealth to discuss his findings, the pros and cons of each withdrawal strategy, the benefits of TIPS in retirement, how to spend more money, how to allocate your assets in retirement and more:



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Further reading:
Does the 4% rule still apply?