SWR 4%: An Investigation. Month 4

Recap

It’s now a whole four months into the experiment where Mr Z in Parallel Universe Number 1 pulled the trigger on early retirement.  This is a completely fictitious portfolio and just a little experiment for me, hopefully giving some insight on what it would actually be like through the ups and downs of living off an investment portfolio.

Each month I am going to assume that Mr Z has lived true to his word and spent every penny of his last drawdown and is ready to drawdown once again from his retirement fund, bang on the end of the month.  The drawdown is assumed to be taken from the overweight allocations.

This should be prudent, as in reality you would cut back when the markets are down, you may have some months where you do a little bit of work and get a little bit of side income, you might not spend the full withdrawal amount, etc

At the start of this experiment the fund was £625,000 split 75% to equity and 25% to cash and bonds.  That should be enough to withdraw £25k a year (and increase this annually along with inflation) if the 4% Safe Withdrawal Rate is to be trusted.

Where are we now at 30/4/2015
At the end of March the position of Mr Z’s portfolio before any drawdown, would be;

Things are bouncing around for Mr Z and overall the portfolio is down nearly £5k before any drawdown.  A cursory look at the funds would suggest that this is driven by the US stocks and UK government bond reductions.

Income
A quiet month;
– £240 from the UK Government Bonds ETF (VGOV)
– £44 in interest on a Cash ISA.
All of the funds are the income type and so distributions are assumed to be paid into the cash account before we look at withdrawal.

Withdrawal
We will follow some mechanical rules, based on the initial asset allocation of 75% Equity and 25% Bonds&Cash.

Any distributions will be taken directly and then any remaining withdrawal will be taken to re-balance towards the 75:25 allocation with any dealing costs picked up by poor Mr Z himself out of his £2,083.  This should then skim off any parts of the portfolio that are doing well and hopefully give any flagging parts of the portfolio catch up while avoiding drawing on capital unnecessarily.

Pre drawdown at 30 April 2015
So Mr Z’s fictitious portfolio would sit at 75.28% equity and 24.72% Bonds&Cash.  


Including the income on the Cash ISA there was a total of £283.62 in distributions in the month, so leaving £1,799.71 left to distribute.

Therefore he will draw down a weighted amount from each of Lifestategy, FTSE100, FTSE Developed Europe and cash depending on how overweight they individually are.
With a bit of rounding and a slight adjustment to sell a whole number of units we actually see withdrawals of;
– £430 from the LifeStrategy Fund (3 units)
– £31 from the FTSE100 ETF (1 unit)
– £454 from the FTSE Developed Europe ETF (20 units)
– £933 extra from cash
It is around here that I start to think that a mechanical strategy is all well and good to remove stupid emotions from your drawdown strategy, but would you really sell 1 unit of a fund to generate £31, probably for a £10 fee.  Unlikely.  Under the guise of keeping this simple, I will let it slide and continue assuming that all of the charges are picked up as part of Mr Z’s outgoings.  Still, that would be £30 of potential charges from the above.  That’s a bottle of whisky each month Mr Z is missing out on.

The remaining portfolio
Following withdrawal the portfolio looks like;
After drawdown at 30 April 2015
Although the month itself wasn’t great, every position is with the exception of the government bonds fund is up since the start of the experiment.  
As ever Mr Z in the parallel universe has no choice and he will plow on regardless, spending £2,083 each and every month and ignoring the markets.  Things are looking pretty rosy, the overall fund is up nearly £17k and he has taken out just over £8k.  To top things off he is due more than £2.5k of income from the LifeStrategy fund at the end of May.  Happy days.
I do wonder if I would be conscious of every penny I was spending and paranoid about running out of capital.  A little bit of paranoia is probably ok, right?  

Best of luck old bean.
Mr Z

13 thoughts on “SWR 4%: An Investigation. Month 4

  1. Anonymous

    Apologies if this was covered on a previous post, but in retirment isn't it likely you'd withdraw on an annual rather than monthly basis?, e.g. keep x years of living expenses in cash, and after a year top this up with a withdrawal from your investments, or if all your funds are down postpone the withdrawal until things are better and eat into your cash buffer in the meantime.

    Reply
  2. ambertreeleaves

    Mr Z.

    Just recently found your blog and I follow your journey now.Best of luck with your goal.

    Very interesting experiment. I look forward to see what you learn from this. I note down already one thought: what if you have to sell a too small amount? Transactions costs do not taste as good as whiskey 🙂

    I made a similar thought experiment a few months back with BOB. He retired early 2009 and now is a happy man. I planned to do the experiment again once I know the markets are over the top.

    The gerenarl outcome on SWR is clear to me, but your extended experiment thought me that I need to play as if it is for real and start thinking about the detail as mentioned above.

    Thx for making this clear to me.

    Amber tree

    Reply
  3. diy investor (UK)

    I am probably missing something but why not make it very simple and just use LS60 or LS80 (or both)?

    Secondly, will it not take 20 or 30 years to establish whether the 4% is too high – how feasible is it to run this experiment?

    Reply
  4. Stephen Iles

    My worry is that dealing costs are going to mount up over time, I think I would be inclined to sell down the best performing and rebalance occasionally to get back in line. Maybe three monthly sales rather than monthly would be more economic.

    What is LS60 and LS80 ?

    Reply
  5. M from There's Value

    I would probably just use the LS80 at my age, or the LS60 if I were 10-20 years older. Also I would use an account that doesn't charge for fund dealing. Easier said that done I know. Still, a fascinating experiment! I wonder if it would be better to make your withdrawals and adjustments every quarter, rather than every month? Just a thought.

    Reply
  6. Mr Zombie

    Hi,

    I'm not saying what I am doing here is in any way a good strategy to follow! Ignoring frequent trading costs, it might not be a bad idea as it does try to remove all emotion from the proceedings and in someway average out the component returns.

    I guess there's no "right" was to do it. My worry, for myself, with less frequent rebalancing or selling down would be that I would start trying to time these and then eat away at my defensive cash and bonds.

    I do plan at some point to do some analysis on the impact different strategies would have had, but I wanted to try and keep it a thought experiment. How would you feel each month, what would you have done etc and more forward looking than a historic investigation.

    But I think you are probably correct – people would drawdown far less frequently. I'm sure in a few months there will be actual data about following the pensions freedom, will be interesting to see…

    Mr Z

    Reply
  7. Mr Zombie

    Hi ambertreeleaves,

    Thanks 🙂

    Yeah – it's not the most realistic strategy, but if I can make it as mechanical as possible then it becomes less of a pain to look at!

    Thanks for the comment,

    Mr Z

    Reply
  8. Mr Zombie

    Hi DIY UK,

    A fair point – that would make it a lot simpler! 🙂 Too late now. I want to do some comparisons at some point against other strategies to see how much of an impact it would have had, but not yet.

    Yeah – it would take decades to run in it's completeness (but I'm not going anywhere 🙂 )

    The thing is, I could go and back test various strategies against a treasure chest of data and try to come up with a robust approach and a suggested SWR. Plenty of people have done this (and far far better than I would) and the results are pretty varied. And with something so complicated it is so sensitive to assumptions and methodology which would take ages to unpick!

    I could build a deterministic model and project strategies, but I don't think this would prove much. Or I could stochastically test various SWR's and portfolios. This would be interesting, and it's part of my work. But I wouldn't do this (yet!), I think that experiments sometimes lose something as they get more and more complicated.

    I think that in reality all of these types of experiments can give us a ball park SWR and the impact of portfolio types have on it. But they are not as flexible or fluid as reality, so I think the key will be just that. Flexibility from ourselves.

    I wanted something forward looking and a bit of a thought experiment, to try in someway bring to light what it might be like living off your investments. And the 4% is the rule of thumb! I doubt the outcome of any of this will be a conclusion on what SWR someone should use, but keep me thinking about it as it is a huge unknown!

    Clear as mud, right? 🙂

    Mr Z

    Reply
  9. Mr Zombie

    Hello,

    Yeah – you are right. I think this method would be prohibitive in reality. Maybe if markets were really volatile it might work out better?

    GET BACK TO YOUR PIANO

    Mr Z

    Reply
  10. Mr Zombie

    Hey buddy,

    On the dealing costs side, yeah you are probably right. I want to do something on that side of things at some point. The impact of the timing of withdrawals on total fund size and actual income you'd receive.

    But I will wait until I have more data 🙂

    Perhaps the key is for all us FI seekers to set up a provider that charges next to no dealing fees?

    Mr Z

    Reply
  11. Cerridwen

    Hi Mr Z,

    This is getting very interesting as it moves forward but I think that's more due to the fact that it's revealing how you might feel about having to make decisions, or stick to pre-determined mechanical actions rather than being about the actual figures you come up with. It does seem to be creating a little "angst"?

    I suppose that's the reason that most people would rather have an annual "safe" drawdown quoted for them by a FI (or buy an annuity). All that time (and worry) working with figures when there are pianos to be played. But for the moment I'm afraid that we all want to see how things pan out with the spreadsheets (and your mental health). Keep up the good work 🙂

    Reply
  12. Mr Zombie

    Hi Cerridwen,

    A little angst is good 🙂

    I think that once interest rates rise and pass through into annuities, they become better value and become more of an attractive option. Until then, let's see how the experiment goes!

    Mr Z

    Reply

Leave a Reply

Your email address will not be published. Required fields are marked *