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In April 2020, one could have bought preferred stock funds like PFF and PGF with a yield of 7.5%. The funds recovered their value from the shock extremely quickly, and reverted back to yielding 4-5%. Still, I suspect a person with a few hundred thousand bucks available could probably have made a retire-for-life move at that moment.
We could see such times again, so I wanted to use the SWR spreadsheet to answer the question: At what fixed income rate could an opportunist retire on what SWR? I wanted the spreadsheet to factor in inflation rates in particular.
I entered a fixed yield (e.g. 4% or 6%, divided by 12) in each cell of the Custom Series1 column and set the AA to 100% Custom Series1. The spreadsheet returned the a safe consumption rate basically equal to the yield I entered. All this makes me think I'm committing some sort of spreadsheet malpractice, because that's not accounting for inflation. Any suggestions?
See ERN's post on the yield illusion, high yield =/= safety.
Everything except for treasury bonds recovered well since April 2020. Despite the current bear market in equities, the S&P 500 is still up ~65% since April 2020, while PFF is only up ~18% since April '20 including dividend reinvestment. I don't think anyone could argue that they'd rather have preferred shares for the past two years over S&P 500 in retirement.
@figuy1 the point is that we may soon have financial conditions where safe bonds and preferred stocks have yields so high they reasonably cover a WR plus an inflation allowance. PFF didn't ride the stock bubble of 2020-21 but that doesn't mean it wasn't a reasonable risk-balanced decision for someone with a small portfolio to retire on in 2020. Yes, Zoom stock would have been better... for a while... but that's the price of safety.
Preferred shares give the illusion of safe returns. But they are not. Inflation will take a bite out of them. Their $25 notional nominal value will be eroded through inflation. And the often fixed rate will be useless if you have an inflation shock like 2021 and 2022.
That said, you could check out some floating-rate shares. At least they will hedge against interest rate hikes. But then again, if the base rate goes up too slowly (right now, the LIBOR is still below 2%!) you will still lose some value due to inflation. Long-term, though, a floater should offer some protection.
To answer the question in the headline, if you could guarantee a fixed rate of return of only about 1.31% (real, CPI-adjusted) you can generate a 4% SWR with asset depletion: In excel:
=RATE(30,0.04,-1,0,1)
To get 5% you need a 3.08% real fixed rate.
Back in the old days (late 1990s), when TIPS had real yields above 3% this was a retirement paradise!
Thanks ERN!
That's interesting because PGF has a yield today of 5.32%, and the 10 year breakeven inflation rate is 2.74%.
IF inflation came in at that rate for the next 10 years, and IF PGF continued paying that same dividend, you'd have a (5.32-2.74=) 2.58% real return. Those are big ifs of course.
I agree that preferreds involve significant danger, and are not to be confused with bonds! They also tend to go on deep clearance sales at the bottom of bear markets like 2020 and 2008-9. I cite them because they make a good proxy for this question. But yes, any invetment with a fixed payout and no pricing power over its revenue is toast at the moment.
Funny thing about the late 90's retirement paradise: Everyone was chasing dot-com stocks instead of capitalizing on the FIRE opportunities right under their nose. I think we'll soon have opportunities right under our nose here in the 20's.
Just to be clear, I have shifted a lot of my bond exposure to floating-rate preferreds. I like the LIBOR+x% setup that a lot of them offer. I don't want to sound like I'm negative on Preferreds. Another plus of Preferreds is that they are heavily invested in financial companies that might even benefit from a rise in interest rates.
A 5.32% yield will not look that great if the Fed has to raise rates to 5% or more deal with the inflation problem. But you're right, in the long-term rates will decline again and if you can sit tight during the intermediate-term preferred share bear market you should be OK.
