Welcome back! It’s time to add another piece to the Safe Withdrawal Rate Series (see here for Part 1). After churning out over 20 parts in this series so far I wanted to sit back and reflect on some of the things I’ve learned from my research. And something occurred to me: Withdrawal strategies in retirement aren’t easy! Contrast that with Mr. Money Mustache’s Shockingly Simple Math of Early Retirement post and Jim Collins’ Equity Series that was rewritten into a book The Simple Path to Wealth. Very influential posts and they are among my favorites, too! So, naturally, I agree 100% that saving for retirement is relatively simple!

*Disclaimer: Saving for retirement with a savings rate of 50% or more as is common in the FIRE crowd requires a great deal of discipline. Especially over a 10+ year time span. It’s not easy! Only the ***math*** behind it is simple! It’s a bit like dieting; conceptually very simple – healthy diet plus exercise – but it’s not that easy to implement and stick to the plan!*

Then, shouldn’t retirement be just as simple? Why am I making everything so complicated? I’m approaching 30 parts in this series, many of them with heavy-duty math and simulations and still a few topics on my to-do list! Am I making everything more complicated than necessary? Am I just trying to show off my math skills? Of course not! Just because **saving** for retirement is relatively simple it doesn’t mean we can just **extrapolate** that simplicity to the **withdrawals** during retirement. And that’s what today’s post is about: I like to go through some of the fundamental factors that make withdrawing money more complicated than saving for retirement. Think of this as an introduction to the SWR Series that I would have written back then if I had known what I know now! 🙂 Ironically, some of the issues that make saving for retirement so simple are the very reason that withdrawing during retirement is more challenging! So, let’s take a closer look…

### 1: Saving for retirement has an ambiguous success criterion and “failure” is a lot less painful!

So, you want to save a million dollars over the next 10 years to retire? Would you call your plan a failure if after 10 years you make it to $900,000? **It’s still a $900,000 success, not a $100,000 failure! **The exact net worth target will likely be a moving target anyway! Likewise, I wouldn’t call it a failure if it takes you 11 or 12 years to reach your target! That’s still pretty impressive!

Not so in retirement. If you have a 50-year horizon and the money runs out after 40 years I would call that a failure, and a pretty painful one, too! If you look at the retirement research (Trinity Study, my SWR series, etc.) there is a mathematically unambiguous cutoff; if your portfolio runs out of money within 30 years that’s a failure. If you have even one single dollar left the Trinity Study would still call that a success.

### 2: Flexibility is a lot easier while saving for retirement!

Related to the previous point: Imagine someone’s plan to save a million dollars over ten years falls short by $100k or even $200k. It’s not the end of the world! Simply work an additional year or two. Especially for the early retirement crowd, it’s no big deal if you retire “only” 24 years before a traditional retiree instead of 25 years. Flexibility is a bit harder when you’re retired. If your money runs out at age 80, you can’t just “die a few years earlier.” Or just go back to work for a few more years.

Of course, critics would argue that most early retirees will use flexibility to save their early retirement way before they risk running out of money. But as I showed in some of the recent SWR Series posts (see Part 23, 24 and 25), this form of flexibility is not without pitfalls either. It’s certainly not as simple as some people want to make it! Everyone can tighten the belt by 30% or 40% or even 50% and consume less (or go back to work part-time) but my simulations in those previous posts show that the duration of your flexibility can be really unpleasant. In some of the cases, flexibility involved going back to part-time work not for years but two decades. Not really a workable solution for me!

### 3: A stock market crash is a lot more worrisome in retirement

The number one concern of equity investors is a bear market. But I’ve made this point on many occasions already (ChooseFI podcast episode 35 or my recent post on why the stock market isn’t exactly a Random Walk): *under certain conditions*, a bear market is not the worst thing that can happen to young investors. What do I mean by “under certain conditions?” If a bear market takes the shape of most previous ones: a sharp drop and a swift recovery, think 2008/9 and the strong recovery that followed. If you’re still in the accumulation phase and far from retirement you can even benefit from that temporary drop thanks to dollar cost averaging (DCA). That’s because if you keep contributing to your nest egg during the bear market you can really turbo-charge your net worth! I did that in 2008/9 myself!

But in retirement, you face the flip side of DCA: Sequence Risk. Instead of buying more shares per dollar we’re now depleting the portfolio at a faster rate while the market is depressed. Let’s look at the following numerical example of a “typical” bear market:

- 12 months of flat (real) returns,
- A 40% drop over 18 months,
- A new bull market over 7.5 years with a cumulative return of about 170% (just over 14% p.a.) to bring the average compound return to 5% (real) over the 10 years!

But remember, this is the cumulative return of a portfolio without withdrawals. Let’s assume we used a 4% withdrawal rate. Since the market returned a full percentage point more than our withdrawal rate we should not worry, right? Wrong! Let’s look at what happens with the portfolio if we factor in a 4% withdrawal rate, see below. Even after 10 years, the portfolio is still below the starting value, all compliments of Sequence Risk. By the way, the chart below is also a nice illustration for why that whole “flexibility mantra” (see point 3 above) is so misplaced. Flexibility, i.e., withdrawing less than initially planned due to a severely depleted portfolio can last much longer than the bear market. For example, when taking the withdrawals into account the portfolio value spends about 60 months below 70. Much longer than the 18 months of the bear market!

### 4: While saving, returns and contributions pull in the same direction…

… and while withdrawing they pull in opposite directions. Why does this matter? I find the following analogy helpful. Imagine you’re paddling in a canoe. Downstream! It’s relatively simple to reach your destination. A combination of paddling and gravity will take you downstream. If you get tired from paddling you can rest for a while and let the stream take you. And, vice versa, if the stream slows down you can compensate with paddling a little harder. Simple! But it would be crazy to conclude that paddling **upstream** is also simple!

How does this relate to personal finance? Think of the stream as the contributions and withdrawals and paddling as the portfolio returns. Saving for retirement is like paddling downstream and it’s pretty simple for the reasons mentioned above. Withdrawing money would be analogous to paddling against the stream and hoping the stream doesn’t take you too far back: over the waterfall = running out of money, arghhh! The unpleasant side effect of this: if your paddling speed is about as fast as the stream (capital preservation) or slightly slower than the stream (targeting capital depletion) then small changes to the withdrawal rate can have large and unpredictable effects to the final portfolio value.

To illustrate this, let’s look at the following case study. In the chart below I look at the evolution of the portfolio of the January 1965 retirement cohort using different initial withdrawals. Assume that we start with a $1,000,000 initial portfolio (80% stocks, 20% bonds) and vary the initial withdrawal amounts between $32,000 and $37,000. A relatively small range of withdrawal amounts (15%) but the final value after 50 years ranges from running out of money (i.e., a negative final value) to actually growing your (real, CPI-adjusted) portfolio by about 55%. Relative to the initial portfolio value that’s a range of about 170% and that’s all by varying the withdrawal amounts by 15%!

This would look very different when saving for retirement: If two savers start with $0 and one saves 15% more then the final value is also (roughly) 15% more (subject to some constraints, like contributions limits in retirement plans, etc.).

### 5: FIRE contributions vs. capital gains

The “miracle” of compound interest makes it possible to grow small amounts into large piles of money over the years and decades. Below is a chart of a simulated portfolio if you invest $1 in the first month, increase the contributions by 2% CPI each year and get an 8% (nominal) return p.a. The portfolio grows to over $6,000 over the 45 years (540 months). Less than $900 of that (14%) comes from your contributions and the bulk (86%) is from capital gains.

But saving for **early retirement** is (likely) quite different. If you save for “only” 15 years then a good chunk of your retirement net worth comes from your contributions, not capital gains. Let’s look at that same numerical example again but zoom in to 15 years: After 15 years, 54% of the portfolio is still from contributions (and it would be a whopping 67% after 10 years, at least in this example) see chart below. Achieving FIRE you’ll have to be 54% saving/frugality expert and “only” 46% investing expert.

What changes when we *withdraw* money? It depends on the horizon! Let’s look at the simple calculations below. Imagine we start with a $1,000,000 initial portfolio and an initial $40,000 withdrawal, adjusted for 2% inflation every year. Over a very long horizon, say, 60 years we’d withdraw a total of more than $4.5m. Why not $2.4m (=60x$40,000)? These are nominal dollars, so the withdrawals are adjusted for 2% inflation every year! In any case, if I start with $1m and I withdraw a total of $4.5m I’d have to generate at least $3.5m in capital gains to make sure I don’t run out of money. Out of every $100 of withdrawals, $78 come from capital gains and only $22 from the initial net worth. That’s much harder than traditional retirement where most of the withdrawals come from just drawing down the principal.

Because early retirees have to rely so heavily on capital gains they are more susceptible to asset return volatility, Sequence Risk, etc. and all that makes early retirement much more uncertain and unpredictable than accumulating assets!

### Conclusion

In one respect, saving for retirement is hard; 50%+ savings rates for a decade or more takes a lot of discipline, especially when everyone around you is living the high life! And retirement is pretty sweet and easy as yours truly can attest, sipping a bottle of Pilsner Urquell while staying in Prague right now as part of our ERN Family World Tour. But simple vs. complicated reverses when I look at the **mathematical and financial aspects** of accumulating vs. decumulating assets. Now, saving for (early) retirement is relatively simple. Start early and invest in passive index funds – mostly equities, especially for young investors. Rinse and repeat until you reach your savings target. Conceptually very simple! But withdrawing money is more challenging, as I have pointed out here on the blog so many times. I get the impression, though, that in the FIRE community this little “detail” is brushed over quite often. And thus everybody is looking for simple solutions: 4% Rule, flexibility, hand-waving, extrapolating the “simple math” to the withdrawal phase. But withdrawing money in retirement is a serious challenge and conceptually much harder than accumulating assets. Maybe this was already obvious to readers here on the blog but I felt that I should make this point very explicitly in a separate blog post!

**PS:** “Withdrawal Strategies for Early Retirees” was a topic interesting enough to be included on the program at the upcoming FinCon (make sure you register here if you haven’t already). There will be a “Money Conversations” session featuring Physician on FIRE, Jonathan and Brad from ChooseFI and yours truly, Big ERN. It’s scheduled for 10am on Saturday – make sure you stop by!

### So much for today! Please check out the other posts in this series and leave your comments and suggestions below!

- Part 1:
**Introduction** - Part 2: Some more research on
**capital preservation vs. capital depletion** - Part 3: Safe withdrawal rates in different
**equity valuation**regimes - Part 4: The impact of
**Social Security benefits** - Part 5: Changing the
**Cost-of-Living Adjustment**(COLA) assumptions - Part 6: A case study: 2000-2016
- Part 7: A
**DIY withdrawal rate toolbox**(via Google Sheets) - Part 8: A
**Technical Appendix** - Part 9:
**Dynamic**withdrawal rates (Guyton-Klinger) - Part 10: Debunking Guyton-Klinger some more
- Part 11: Six criteria to grade
**dynamic withdrawal rules** - Part 12: Six reasons to be suspicious about the “
**Cash Cushion**“ - Part 13: Dynamic Stock-Bond Allocation through
**Prime Harvesting** - Part 14:
**Sequence of Return Risk** - Part 15: More Thoughts on
**Sequence of Return Risk** - Part 16: Early Retirement in a
**low return environment**(The Bogle scenario!) - Part 17: Why we should call the 4% Rule the
**“4% Rule of Thumb”** - Part 18:
**Flexibility**and the Mechanics of**CAPE-Based Rules** - Part 19:
**Equity Glidepaths**in Retirement - Part 20: More thoughts on
**Equity Glidepaths** - Part 21:
**Mortgages**and Early Retirement don’t mix! - Part 22: Can the
**“Simple Math”**make retirement more difficult? - Part 23:
**Flexibility**and**Side Hustles!** - Part 24:
**Flexibility Myths**vs. Reality - Part 25: More
**Flexibility Myths** - Part 26: Ten things the “Makers” of the 4% Rule don’t want you to know
- Part 27: Why is
**Retirement Harder**than Saving for Retirement? - Part 28: An
**updated Google Sheet**DIY Withdrawal Rate Toolbox - Part 29: The
**Yield Illusion:**How Can a High-Dividend Portfolio Exacerbate Sequence Risk? - Part 30: The
**Yield Illusion**Follow-Up - Part 31: The
**Yield Illusion (or Delusion?)**: Another Follow-Up!

*Picture Credit: **Pixabay*

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