These spending and investing precepts may
encourage its longevity.
All retirees want their money to last a
lifetime. There is no guarantee it
will, but, in pursuit of that goal, households may want to adopt a couple of
spending and investing precepts.
One
precept: observing the 4% rule. This classic retirement planning principle works
as follows: a retiree household withdraws
4% of its amassed retirement savings in year one of retirement, and withdraws
4% plus a little more every year thereafter – that is, the annual withdrawals
are gradually adjusted upward from the base 4% amount in response to inflation.
The 4% rule was first formulated back in the 1990s by an influential
financial planner named William Bengen. He was trying to figure out the
“safest” withdrawal rate for a retiree; one that could theoretically allow his
or her savings to hold up for 30 years given certain conditions (more about
those conditions in a moment). Bengen ran various 30-year scenarios using
different withdrawal rates in relation to historical market returns, and
concluded that a 4% withdrawal rate (adjusted incrementally for inflation) made
the most sense.1
For the 4% rule to “work,” two fundamental conditions must be met. One,
the retiree has to invest in a way that will allow his or her retirement
savings to grow along with inflation. Two, there must not be a sideways or bear
market occurring.1
As sideways and bear markets have not been the historical norm,
following the 4% rule could be wise indeed in a favorable market climate.
Michael Kitces, another influential financial planner, has noted that,
historically, a retiree strictly observing the 4% rule would have doubled his
or her starting principal at the end of 30 years more than two-thirds of the
time.1
In today’s low-yield environment, the 4% rule has its critics. They
argue that a 3% withdrawal rate gives a retiree a better prospect for
sustaining invested assets over 30 years. In addition, retiree households are
not always able to strictly follow a 3% or 4% withdrawal rate. Dividends and
Required Minimum Distributions may effectively increase the yearly withdrawal.
Retirees should review their income sources and income prospects with the help
of a financial professional to determine what withdrawal percentage is
appropriate given their particular income needs and their need for long-term
financial stability.
Another
precept: adopting a “bucketing” approach. In this strategy, a retiree household
assigns one-third of its savings to equities, one-third of its savings to
fixed-income investments, and another third of its savings to cash. Each of
these “buckets” has a different function.
The cash bucket is simply an emergency fund stocked with money that
represents the equivalent of 2-3 years of income the household does not receive
as a result of pensions or similarly scheduled payouts. In other words, if a
couple gets $35,000 a year from Social Security and needs $55,000 a year to
live comfortably, the cash bucket should hold $40,000-60,000.
The household replenishes the cash bucket over time with investment
returns from the equities and fixed-income buckets. Overall, the household
should invest with the priority of growing its money; though the investment
approach could tilt conservative if the individual or couple has little
tolerance for risk.
Since growth investing is an objective of the bucket approach, equity
investments are bought and held. Examining history, that is not a bad idea: the
S&P 500 has never returned negative over a 15-year period. In fact, it
would have returned 6.5% for a hypothetical buy-and-hold investor across its
worst 15-year stretch in recent memory – the 15 years ending in March 2009,
when it bottomed out in the last bear market.2
Assets in the fixed-income bucket may be invested as conservatively as
the household wishes. Some fixed-income investments are more conservative than
others – which is to say, some are less affected by fluctuations in interest
rates and Wall Street turbulence than others. While the most conservative,
fixed-income investments are currently yielding very little, they may yield
more in the future as interest rates presumably continue to rise.
There has been great concern over what rising interest rates will do to
this investment class, but, if history is any guide, short-term pain may be
alleviated by ultimately greater yields. Last December, Vanguard Group projected
that, if the Federal Reserve gradually raised the benchmark interest rate to
2.0% across the three-and-a-half years ending in July 2019, a typical
investment fund containing intermediate-term fixed-income securities would
suffer a -0.15% total return for 2016, but return positively in the following
years.3
Avoid
overspending and invest with growth in mind. That is the basic message from all this,
and, while following that simple instruction is not guaranteed to make your
retirement savings last a lifetime, it may help you to sustain those savings
for the long run.
This material was prepared by MarketingPro, Inc., and does not
necessarily represent the views of the presenting party, nor their affiliates. This
information has been derived from sources believed to be accurate. Please note
- investing involves risk, and past performance is no guarantee of future
results. The publisher is not engaged in rendering legal, accounting or other
professional services. If assistance is needed, the reader is advised to engage
the services of a competent professional. This information should not be
construed as investment, tax or legal advice and may not be relied on for the
purpose of avoiding any Federal tax penalty. This is neither a solicitation nor
recommendation to purchase or sell any investment or insurance product or
service, and should not be relied upon as such. All indices are unmanaged and
are not illustrative of any particular investment.
06072016-WR-1659
Citations.
1 - money.cnn.com/2016/04/20/retirement/retirement-4-rule/
[4/20/16]
2 - time.com/money/4161045/retirement-income/ [5/22/16]
3 - tinyurl.com/hjfggnp [12/2/15]