Traditional advice for retirees who need to keep their assets for 30 years is to not exceed 4% of their savings in the first year of retirement, and draw them down over the next few years to accommodate inflation. to increase.
A year after Morningstar researchers recommended spending cuts, spending rates have returned to near 4%, making it more realistic for those considering retirement.
“It’s counter-intuitive, but when valuations are high, it’s the worst time to retire,” said Christine Benz, director of personal finance at Morningstar, and co-author of a study published last year. , and those making their first withdrawals in 2022 are advised to keep it at 3.3.% as they expect a lower return on investment in the future.
In a report released Monday, Benz and co-authors said current market conditions could see new retirees spend 3.8% in the next 30 years. Why: Today’s lower stock and bond valuations support expectations for higher future investment returns than last year.
The recommended withdrawal rate for new retirees varies from year to year, increasing or decreasing through thousands of simulations of future market conditions.
Using Morningstar’s updated spending recommendation of 3.8%, a person retiring today with a $1 million portfolio of 50% stocks and 50% bonds won’t spend more than $38,000 in 2023.
Assuming inflation rises by 5% next year, investor income will rise at the same rate to $39,900 in 2024, regardless of market performance. (For many new retirees, the first year amount may be similar to what they would have withdrawn if they had retired a year earlier and used a lower spending rate with a higher account balance.) there is.)
“If you’re thinking of retiring, you can use the 3.8% as a test of the viability of a withdrawal you’re thinking about,” Benz said, adding that he’s willing to cut spending when markets fall. retirees who are on board can start slightly above 3.8%, he added.
For example, new retirees willing to withhold inflation adjustments following a portfolio loss, for example, can withdraw 4.4% initially and have a 90% chance of not running out of money for 30 years or more, according to the report.
Those who have already retired should keep the originally recommended withdrawal amount instead of switching to 3.8%.
A person who retired with $1.2 million a year ago and used the 3.3% withdrawal rate recommended by Morningstar at the time would have spent $39,600 this year. Assuming inflation rises by 7% for the full year, this method would allow him to raise that spending to $42,372 in 2023.
But Mr Benz said those who retired last year and are desperate for their money to last should consider scaling back inflation hikes or stopping them altogether, if they can afford it. rice field.
Benz said last year’s 3.3% recommendation may be too high. This is due to the convergence of simultaneous declines in stocks and bonds and high inflation.
With high inflation, withdrawals made using the 4% rule method increase significantly. And when a bear market hits, retirees have to pull money out of shrinking portfolios.
Both situations mean the portfolio must capture higher returns to prevent depletion, making it particularly dangerous early in retirement as most retirees need decades of savings. There is a possibility.
According to retired financial planner Bill Bengen, who devised the 4% rule, every 30 years since 1926, the 4% has prevented retirees from running out of money, even in the worst of economic times. It was the historic starting spending rate. 1994.
According to Bengen’s research, October 1, 1968 began the worst 30-year retirement period. This is due to the relatively poor return on investment and high inflation that prevailed during much of the 1970s.
A 3.8% withdrawal rate is the most reliable for portfolios with 30% to 60% equities and the rest bonds, according to Morningstar.
If your investment in equities is less than 30%, returns may not be sufficient to support inflation-adjusted withdrawals of 3.8% over 30 years. Anything above 60% of his stock puts the portfolio at greater risk of significant and irrecoverable losses during a bear market.
