Do you live off your portfolio? How?

[samwise]

It's a very real thing! That's why people historically have used a 4% withdrawal rate while historical (equity) returns have been close to 10%! The only reason you don't have a 10% safe withdrawal rate with 10% equity returns is because of the volatility drag. With lower interest rates and probably lower equity returns going forward a safe withdrawal rate would also be lower.

 

And it is not just the volatility. The sequence of returns is critical. If you have a few bad years at the start of your retirement, you get into a death spiral where your portfolio goes to zero. Think of it as the evil twin of dollar cost averaging.

 

From the 1929 peak, stocks returned 8% per year over 35 years.

 

Except there was a 86% drawdown over the next 3 years. If you took 5% per year on top of the 86%, it was game over. That is where the 4% number comes from.

 

But if you compounded at 8% over 35 years until 1933 (losing 86% in the final years of your retirement), the 4% rule would leave a very large estate.

 

Thanks. That is a good point. But is there a way to capture the magnitude of sequence of returns risk one faces?

 

The standard advice is to save 25x expenses. If expenses are 40k (hypothetical example), then you need a million dollars. It is the same for a Japanese investor in 1990 and a Us investor in 2009, or 1980 or 2000. If they all have a million dollars, the standard advice is that they are financially independent. No consideration of the earnings of those million dollars, which were very different in each year.

[Hielko]

If you are confident in your timeframes and business selection you could borrow temporarily from your broker for living expenses.

 

Which brokers do this? Isn’t a margin loan only for buying securities, or can you cash it and take it to the nursing home?

You can do this with every broker. You withdraw cash, you get the margin loan to maintain your current equity positions. So it's just a regular margin loan for buying securities.

[vinod1]

 

So I would not use past safe withdrawal rates as a guide to the future. They need to be adjusted down very significantly. In fact, this is one of the motivations for me way back in 2005 to switch to active as I had been indexing up to that point.

 

How did you manage your portfolio after becoming active? Did you aim for higher earnings yields or a different approach?

 

 

adjusting for inflation is not going to be enough. Two reasons

 

1. Since the standard of living is going up,

 

2. Hedonic adjustments means you cannot just buy inflation adjusted goods. You are forced to buy the improvements.

 

For a longish retirement your expenses are going to be grow with CPI + Real Per Capita Income growth of your peers. So plan for that.

 

I wrote about this way back in 2005.

 

http://vinodp.com/documents/nri/standard_of_living.html

 

 

Thanks Vinod! Very interesting paper. So the expenses need to keep pace with the “Joneses”, not with inflation. I get the idea that if you have maintained a 1950 middle class lifestyle in 2019 you might consider yourself poor: you are living without cell phones (even Dumb ones), and probably lots of other things.

 

You mentioned keeping pace with wages. No company earnings track that, but they might track consumers spending. Is that an alternative to tracking wages.

 

Do you look at the growth rate of look-through earnings ? E.g. percentage of wages spent on food decreases as living standards rise in countries. So buying food company earnings might not protect your living standard. What would protect your living standard? Do you look for natural hedges to inflation or wages etc?

 

How did you manage your portfolio after becoming active? Did you aim for higher earnings yields or a different approach?

 

1. No grand strategy. Initially had a plan to do x% in "Exceptionals" (what is now called compounders), y% in this and that. But it never worked out that way. Opportunities never lined up with the grand plan. So always ended up just picking whatever stocks are the most attractive that I can understand.

 

I have about 25 stocks that fall under "Exceptionals" that I keep track of, another 130 odd that I consider have a pretty good moat and another 110 odd that are mediocre. I update them periodically and buy whenever it gets into my target range.

 

You mentioned keeping pace with wages. No company earnings track that, but they might track consumers spending. Is that an alternative to tracking wages.

 

Do you look at the growth rate of look-through earnings ? E.g. percentage of wages spent on food decreases as living standards rise in countries. So buying food company earnings might not protect your living standard. What would protect your living standard? Do you look for natural hedges to inflation or wages etc?

 

2. To me all it means is that my expenses are going to be faster than inflation by a couple of percentage points. Nothing fancy. Trying to be more any more precise is not going to be helpful. I more in the camp of having something like 50x for retirement to be secure.

 

I think 25x is too aggressive and 75x may be too conservative. So 50x seems like a good median. Nothing really fancier than that.

 

I do like to keep track of my look through earnings. Not sure what for, but it fills me with warm fuzzy feelings. :)

 

Vinod