Tag: bonds

Accounting for Homeownership in (Early) Retirement– SWR Series Part 57

April 14, 2023

Welcome to a new installment of the Safe Withdrawal Rate Series. Please check out the SWR landing page for a summary of and a link to the other posts.

Today’s topic is homeownership. I’ve already made the case that not just rental properties but even homeownership can be a great tool in building assets (“See that house over there? It’s an investment!“). But what if you are already retired? What are some of the benefits of homeownership in the context of (early) retirement? Does homeownership reduce Sequence Risk? Do homeowners enjoy a lower inflation rate in retirement? If so, by how much can homeowners raise their safe withdrawal rate? How do we properly account for homeownership (with and without a mortgage) in the SWR simulation toolkit?

Lots of questions! Let’s take a look…

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March 2023 Market and Moral Hazard Musings

March 16, 2023

After the tumultuous year 2022, it looked like 2023 was off to a great start. But banks threw a monkey wrench into the machine, with the S&P almost erasing the impressive YTD gains, several bank failures, and the prospect of a worldwide banking crisis that all changed. So folks contacted me and asked me if I could weigh in on this and some other issues.

Here are some of my musings about bank failures, government failures, moral hazard, and why the FDIC should eliminate the $250k limit and simply insure all deposits…

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The Basics of FIRE

March 10, 2023

After seven years of blogging in the personal finance and FIRE community, I realize that there’s one type of post I’ve always avoided: How to explain FIRE to a complete newbie. Until now, I’ve outsourced that task and simply referred to the Links Page. But where’s a good overview, all in a simple and comprehensive post to give a one-stop overview of what FIRE is and how one can pull it off? I’ve come across a lot of good information, but it’s all in bits and pieces and here and there. I’m not going to dump a reading/listening list of 20 different posts/shows on 18 different blogs/podcasts on someone new to the community. And my Safe Withdrawal Rate Series? Great stuff. But it’s also the deep end of the pool, and I would likely scare away any new recruits. That series is targeted at folks already retired or nearing early retirement.

So how would I explain or even pitch FIRE to someone new to the community? Let’s take a look…

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Discussing Retirement Bucket Strategies with Fritz Gilbert – SWR Series Part 55

January 25, 2023

Welcome to another part of my Safe Withdrawal Rate Series. Today’s topic: Bucket Strategies in retirement. As you know, my blogging buddy Fritz Gilbert has written extensively on this topic at his Retirement Manifesto blog, for example:

And likewise, I have written about my skepticism of bucket strategies in Part 48 of the series: “Retirement Bucket Strategies: Cheap Gimmick or the Solution to Sequence Risk?”

Fritz’s most recent post on the Bucket Strategy started a lively back-and-forth on Twitter, and it seemed appropriate to pursue a more detailed discussion with more than 280 characters per answer in a “fight of the titans” blog post. So if you haven’t done so already, please check out our awesome discussion over on Fritz’s blog:

Is The Bucket Strategy A Cheap Gimmick?

The response was overwhelmingly positive, and we decided to craft a follow-up post here on my blog. We came up with two new questions, and we also need to address two major themes from the comments section in Part 1, specifically, the role of simplicity and behavioral biases in retirement planning.

So, let’s take a look…

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Could 2022 be worse than 2001?

November 2, 2022

In my post three weeks ago, I happily declared that the 4% Rule works again, thanks to the much more attractive equity and bond valuations. It’s always fun to deliver pleasant news. But keep in mind, everyone, that this refers to today’s retirees with their slightly depleted portfolios. But how about the folks who were unlucky enough to retire earlier this year in January 2022, when equities were at their all-time high? That cohort is off to a bad start, to put it mildly. Of course, it’s too early to tell what should have been the appropriate safe withdrawal rate for that cohort. We’re only less than a year into a multi-decade retirement. My recommendation back then would have been that due to the wildly expensive equity valuations and low bond yields one should have treaded a bit more cautiously. Maybe do 3.50-3.75% for a 30-year traditional retirement and 3.25% for a 50 or 60-year early retirement. And maybe raise that a little bit again depending on your personal circumstances, especially if you expect large supplemental cash flows from pensions and Social Security later in retirement, see my Google Simulation sheet (Part 28 of my SWR Series). Also notice also that with my estimates, I’m a bit more aggressive than the widely-cited Morningstar study recommending a 3.3% safe withdrawal rate for a 30-year retirement.

But recently, I’ve come across some rumblings that put into question all this cautious retirement planning. The reasoning goes as follows: First, the year 2000 retirement cohort actually did reasonably well with the 4% Rule. Second, the Shiller CAPE at the peak of the Dot-Com bubble was higher than in 2022. Bingo! The 4% Rule should do really well and even better for the 2022 cohort, right? I’m not so sure. That line of reasoning is flawed, for (at least) two reasons: First, the pre-Dot-Com-Crash retirement cohort experience wasn’t as pleasant as some people want to make it now. And second, I actually believe that the fundamentals in late 2021 and early 2022 were not very attractive at all. In fact, in some crucial dimensions, they were significantly worse than at the height of the Dot-Com bubble. Hence today’s post with the slightly scary and ominous title. Two days late for Halloween, I know.

Let’s take a look…

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The 4% Rule Works Again! An Update on Dynamic Withdrawal Rates based on the Shiller CAPE – SWR Series Part 54

October 12, 2022

As promised in the “Building a Better CAPE Ratio” post last week, here’s an update on how I like to use the CAPE ratio calculations in the context of my Safe Withdrawal Rate Research. I have studied CAPE-based withdrawal rates in the past (see Part 11, Part 18, Part 24, Part 25) and what I like about this approach is that we get guidance in setting the initial and then also subsequent withdrawal rates based on economic fundamentals. That’s a lot more scientific than the unconditional, naive 4% Rule. In today’s post, I want to specifically address a few recurring questions I’ve been getting about the CAPE and safe withdrawal rates:

  1. Can a retiree factor in supplemental cash flows like Social Security, pensions, etc. when calculating a dynamic CAPE-based withdrawal rate, just like you’d do in the SWR simulation tool Google Sheet (see Part 28 for more details)? Likewise, is it possible to raise the CAPE-based withdrawal rate if the retiree is happy with (partially) depleting the portfolio? You bet! I will show you how to implement those adjustments in the CAPE calculations. Most importantly, I updated my SWR Simulation Google Sheet to do all the messy calculations for you!
  2. With the recent market downturn, how much can we raise our CAPE-based dynamic withdrawal rate when we take into account the slightly better-looking equity valuations? Absolutely! It looks like, the 4% Rule might work again! Depending on your personal circumstances you might even be able to push the withdrawal rate to way above 4%, closer to 5%!
  3. What are the pros and cons of using a 100% equity portfolio and setting the withdrawal rate equal to the CAPE yield?

Let’s take a look…

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Hedging Against Inflation and Monetary Policy Risk

July 5, 2022

Over the last few decades, we’ve become accustomed to a negative correlation between stocks and U.S. Treasury bonds. Bonds used to serve as a great diversifier against macroeconomic risk. Specifically, the last four downturns in 1991, 2001, 2007-2009, and 2020 were all so-called “demand-side” recessions where the drop in GDP went hand-in-hand with lower inflation because a drop in demand also lowered price pressures. The Federal Reserve then lowered interest rates, which lifted bonds. This helped tremendously with hedging against the sharp declines in your stock portfolio. And in the last two recessions, central banks even deployed asset purchase programs to further bolster the returns of long-duration nominal government bonds. Sweet!

Well, just when people start treating a statistical artifact as the next Law of Thermodynamics, the whole correlation collapses. Bonds got hammered in 2022, right around the time when stocks dropped! At one point, intermediate (10Y) Treasury bonds had a worse drawdown than even the S&P 500 index. So much for diversification!

So, is the worst over now for bonds? Maybe not. The future for nominal bonds looks uncertain. We are supposed to believe that with relatively modest rate hikes, to 3.4% by the end of this year and 3.8% by the end of 2023, as predicted by the median FOMC member at the June 14/15, 2022 meeting, inflation will miraculously come under control. As I wrote in my last post, that doesn’t quite pass the smell test because it violates the Taylor Principle. The Wall Street Journal quipped, “The Cost of Wishful Thinking on Inflation Is Going Up Too”. I’m not saying that it’s impossible for inflation to subside easily, but at least we should be prepared for some significant upside risk on inflation and interest rates. Watch out for the July 13 CPI release, everybody!

So, trying to avoid nominal bonds, how do we accomplish derisking and diversification? Here are ten suggestions…

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The Bear Market is here. What Now?

June 15, 2022

With the recent confirmation of a Bear Market finally taking hold, I’ve gotten some requests to comment on the situation: Are we going to have a recession? What’s my inflation outlook? What to expect from the Federal Reserve? What does this all mean for us in the FIRE community?

Let’s take a look…

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Hedging against Sequence Risk through a “Retiree-Saver Investment Pact” – SWR Series Part 53

June 6, 2022

In this year’s April Fool’s post, I marketed a made-up crypto coin that would completely hedge against Sequence Risk, the dreaded destroyer of retirement dreams. Once and for all! Most readers would have figured out this was a hoax because that complete hedge against Sequence Risk is still elusive after so many posts in my series. Sure, there are a few minor adjustments we can make, like an equity glidepath, either directly, see Part 19 and Part 20, or disguised as a “bucket strategy” (Part 48). We could very cautiously(!) use leverage – see Part 49 (static version) and Part 52 (dynamic/timing leverage), and maybe find a few additional small dials here and there to take the edge off the scary Sequence Risk. But a complete hedge is not so easy.

Well, maybe there is an easy solution. It’s the one I vaguely hinted at when I first wrote about the ins and outs of Sequence Risk back in 2017. You see, there is one type of investor who’s insulated from Sequence Risk: a buy-and-hold investor. If you invest $1 today and make neither contributions nor withdrawal withdrawals, then the final net worth after, say, 30 years is entirely determined by the compounded average growth rate. Not the sequence, because when multiplying the (1+r1) through (1+r30), the order of multiplication is irrelevant. If a retiree could be matched with a saver who contributes the exact same amount as the retiree’s cash flow needs, then the two combined, as a team, are a buy and hold investor – shielded from Sequence Risk. It’s because savers and retirees will always be on “opposite sides” of sequence risk. For example, low returns early on and high returns later will hurt the retiree and benefit the saver. And vice versa. If a retiree and a retirement saver could team up and find a way to compensate each other for their potential good or bad luck we could eliminate Sequence Risk.

I will go through a few scenarios and simulations to showcase the power of this team effort. But there are also a few headaches arising when trying to implement such a scheme. Let’s take a closer look…

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Crypto is probably a bad investment!

April 25, 2022

If you remember my April Fools Day post from a few weeks ago, I poked fun at the proliferation of new crypto coins. Most of them are scams. But what about the mainstream crypto coins, like Bitcoin, Ethereum, etc.? Are they a good investment? What’s not to like about a 100%+ annualized return in some of the crypto coins between their inception and their 2021 peak?

Well, those returns are “water under the bridge”. What matters to me today is the outlook for the crypto world going forward. In today’s post, I like to go through some of the reasons why I believe going forward, crypto looks like a sub-par investment. I currently don’t invest in crypto and I don’t think that anything more than a few % of the portfolio seems prudent. Let’s take a look…

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