Saturday 20 July 2019

Sobering retirement income drawdown demonstrations – 12.5 years in

Another year has passed for our UK early retiree.  A year ago I wrote that in the worlds biggest economy, the United States, Donald Trump was starting trade wars and the S&P500 cyclically adjusted price earnings (CAPE) ratio was sitting at 32.0 against a long run average of 16.9.  A year on it’s almost déjà vu with the trade war with China still rumbling along and the S&P500 still on a high 30.4.  Closer to home I wrote that we had a Brexit shambles playing out in slow motion that might just ruin the economy for a long time.  A year on and the whole Brexit situation has moved on to become a joke with politicians continuing to promise unicorns while the FTSE100 has fallen 2.8% in nominal terms.  Of course dividends continued to be paid which will have dampened that fall.

Against this environment it’s unlikely a UK early retiree who has opted for a higher withdrawal rate will be dancing for joy but let’s take a look.

This update of the drawdown demonstrations now has our retiree some 12.5 years in to retirement.  It assumes our retiree is not one of the lucky ones sitting on a defined benefit pension (although it’s likely they’d need some other income source in the early years if they’re going to FIRE), isn’t intending to buy an annuity (again, not likely for the early years of FIRE) and isn’t planning on living off the State Pension (although 12.5 years in to retirement our UK retiree might just be starting to get to an age where there might be some predictability in what they might receive here so they might want to start baking a portion into their models).

We are now fast approaching the half way mark that the 4% rule is based upon and this simulation assumes retirement was taken on the 31 December 2006.  If this date sounds convenient then you’re right.  The date was deliberately chosen as it is the year prior to the commencement of the global financial crisis and so hopefully represents a modern worst case.  Someday it may even go down in history as one of the time periods which saw a poor sequence of returns however of course that will only become clear when we are firmly looking in the rear view mirror many years hence.

Over the years readers have suggested various alternatives for these demonstration portfolios however for long term consistency I want to make as few changes to the original assumptions as possible so will stick with them for now.

Where we left our retiree’s a year ago can be found here.  In brief, the key assumptions are:
  • Our retiree’s are drawing down at the stated withdrawal rate plus fund expenses only.  This means any trading commissions, wrapper fees (eg ISA, SIPP fees), buy/sell spreads and taxes have to be paid out of the earnings taken.  For example, our 2% initial withdrawal rate retiree is actually drawing down at between 2.1% and 2.2% dependent on the asset allocation selected.   
  • 6 Simple UK equity / UK bond portfolios are simulated for our retiree.  The UK equities portion is always the FTSE 100 where the iShares FTSE 100 ETF (ISF) is used as the proxy.  This fund currently carries expenses of 0.07% however this has been as high as 0.4% in the past.  For the bonds portion a simulation is run against UK gilts (FTSE Actuaries Government Securities UK Gilts All Stock Index) where the iShares FTSE UK All Stocks Gilt ETF (IGLT) is used as the proxy and the bond type I have preferred in my own portfolio, UK index linked gilts (Barclays UK Government Inflation-Linked Bond Index), where the iShares Barclays £ Index-Linked Gilts ETF (INXG) is used as the proxy.  The later has seen it’s expenses reduced from 0.25% to 0.1% over the past year which should also give a little performance boost going forwards.
  • All calculations are in real (RPI inflation adjusted) terms meaning that a £ in 2006 is equal to a £ today.
  • The wealth accrued at retirement (the 31 December 2006) is £100,000.  To simulate a larger or smaller amount of wealth just multiple by a constant. For example if you want our retiree’s to have £600,000 just multiply all the subsequent pound values by 6.

A 4% Initial Withdrawal Rate

UK Retiree Real Portfolio Value, £100,000 Initial Value, 4% Withdrawal Rate, 30 June Value
UK Retiree Real Portfolio Value, £100,000 Initial Value, 4% Withdrawal Rate, 30 June Value, Click to enlarge

I always start with a 4% withdrawal rate because of the often quoted 4% safe withdrawal rate rule.  The 50% equity : 50% gilts portfolios (the red lines on the chart) are the closest representations to the 4% rule with obvious differences being that:
  • the 4% rule was for a US based investor with US based investments while I’m simulating UK investors with UK based investments; and
  • the 4% rule doesn’t consider fees where I’m capturing the OCF’s of the ETF’s which makes my withdrawal rate very slightly higher.

One year ago, after 11.5 years of retirement, between 7% and 28% of investment wealth had been lost in real terms.  A year on the 75% FTSE 100 / 25% UK Gilts portfolio remains the worst performer, now down 32% in real terms, with the 25% FTSE 100 / 75% UK Index Linked Gilts remaining the best performer, now down 8%.

So we’re 42% of the way through a 30 year retirement and in the worst case scenario have burnt through 32% of our wealth in real inflation adjusted terms.  I personally wouldn’t be sleeping overly soundly with this and for some time now probably would have scaled back spending a little if that option was available to me or I might have tried to work up some sort of part-time income.  Those who are less risk averse would probably be rolling with the punches and maybe starting to assume some state pension will help things in the future.

A 3% Initial Withdrawal Rate

UK Retiree Real Portfolio Value, £100,000 Initial Value, 3% Withdrawal Rate, 30 June Value
UK Retiree Real Portfolio Value, £100,000 Initial Value, 3% Withdrawal Rate, 30 June Value, Click to enlarge

A 3% withdrawal rate after the expenses of the ETF’s was chosen as it is very close to Wade Pfau’s research which for a UK investor with 50% UK stocks and 50% UK bonds showed that historically a safe withdrawal rate to not extinguish your wealth in a 30 year period was 3.05%.

Our 3% drawdown retirees, or £3,000 withdrawn per annum, which are loosely following Pfau’s simulation with 50% equity / 50% gilts portfolio’s are up 1% and 12% (last year up 2% and down 10%).  Even for a 40 year retirement that’s not looking to bad to me.

Looking over the 6 portfolios the best case portfolio is now up in real terms by 10% while the worst is down by 16%.   This is a slight degradation on one year ago which were at best up 9% while at worst were in the red wealth wise by 13%.

A 2.5% Initial Withdrawal Rate

UK Retiree Real Portfolio Value, £100,000 Initial Value, 2.5% Withdrawal Rate, 30 June Value
UK Retiree Real Portfolio Value, £100,000 Initial Value, 2.5% Withdrawal Rate, 30 June Value, Click to enlarge

I’ve put this withdrawal rate in as it most closely represents the situation I have settled on, went into FIRE with and will reFIRE with.  I’ve planned around a 2.5% withdrawal rate and a 40 year retirement.

My FIRE portfolio is now set.  Against these demonstration portfolios asset allocation wise it sits almost midway between the 50% FTSE 100 / 50% UK Index Linked Gilts and the 75% FTSE 100 / 25% UK Index Linked Gilts.  If these were my only asset classes and if I had have pulled the FIRE’ing pin back at the end of 2006 then in real terms my wealth would now be up around 4% in real terms.  Ideally I’d like my wealth to not deplete in real terms, it’s one of the reasons I want to try and just live off dividends, so a 4% wealth gain would have me in a good place.  I’m therefore still happy with a 2.5% plus investment expenses withdrawal rate.

A 2% Initial Withdrawal Rate

UK Retiree Real Portfolio Value, £100,000 Initial Value, 2% Withdrawal Rate, 30 June Value
UK Retiree Real Portfolio Value, £100,000 Initial Value, 2% Withdrawal Rate, 30 June Value, Click to enlarge

This should be a very conservative drawdown rate which means it requires a lot of wealth to support.  For example if you desire £20,000 of drawdown per annum then you’re going to need a cool £1,000,000.  At this point that is also how it seems to be playing out with our retiree probably having worked too long before retiring.  The worst portfolio is flat at 0% with the best now up 28% (was 24% last year) in real terms.

To Conclude

This demonstration looks at 24 different portfolio / drawdown rate combinations.  Of those we now have 10 (was 11 last year) that are still in real inflation adjusted positive territory.  Of the 14 that are in the red one is now down 32% but we’re also now fast approaching the half way mark of the much talked about 30 year drawdown period.  That’s possibly fine for somebody taking a more traditional retirement but is far from long enough for somebody FIRE’ing very early.  This study continually reinforces to me:
  • the risks associated with living off capital; and 
  • that blindly following any mechanical safe withdrawal method could be a dangerous hobby.  

On the positive side even if a Global Financial Crisis style event were to occur again my portfolio and assumptions might just be able to weather such a storm.

As always DYOR.


  1. Thanks for the update RIT. Things held up surprisingly well despite a topsy-turvy 2018.

  2. Your chosen benchmark portfolios reveal the remarkable performance of ILG's over the last 10 years or so . Many of the longer dated gilts ( and the longer end of the medium dated ) have doubled in price since 2010/11.

    Have a look at

    1. Agreed, over the period of interest above total returns have been:
      - INXG (UK index linked gilts ETF) 149%
      - IGLT (UK gilts) 90%
      - ISF (FTSE 100) 86%

      Even comparing to the S&P 500 over the same period (which has been flying since early 2016) they're right up there:
      - IUSA (S&P 500) 150%

  3. going back to last week's post - one of the reasons I like the Myers-Briggs approach is - not only does it help find " who you are " but also gives powerful and useful info. about the kind of relationships you will have with your colleagues at work. So it is not only helpful to know who you are yourself - but also what makes your colleagues tick and how to get the best out of them and how best to avoid negative relationships and distractions .

    There is a brief article in yesterday's ( Sat ) Daily Telegraph about Thomas Erikson's approach - he is a " behavioural expert " and has authored " Surrounded by Idiots " . He also uses his approach to look at interactions with relationships within the workplace. You might find this of interest RIT.

    1. As always thanks for your thoughts here stringvest. Looking back over the years I've been at this of course I should have started focusing on this long ago but I'm also so glad that I can focus on it now rather than waiting another 10 or 20 years. Would I have ended up in a better, worse or just different position by focusing on it earlier? Who knows but what I do know is that I'm still seeing this as a positive experience and that I'm incredibly fortunate to be able to go through it.

      I think Warren Buffet once said something like "The best time to invest is several years ago. The second-best time is now." Replace invest with find purpose/self actualisation/who you are/etc and it's still a pretty good quote.

    2. I hope you don't think I was suggesting you should have done this ages ago - because I was not . You have reached a kind of crossroads ( or spaghetti junction ) where you have lots of options and choices that you can make . Cyprus must have been a huge disappointment for you and your family - after all the hard work you put in to planning and effecting the move . If that had happened to me I would want to try and avoid something similar happening again - and use as many methods as possible to try and select the options that are most likely to succeed for you all . You may well find you were exceedingly well suited to the work you were doing - but that does not necessarily mean it would be right for you now . Your previous work allowed you to work towards your ( burning ) goal of FIRE - so you have been there and done that . But what are the potential rewards ?? Good luck in your search.

    3. No, it was more some self reflection. That said it has come up on some forums, other blogs and maybe even this one over the years so I possibly should have been a bit sharper with it than I was.

      We look back on Cyprus fondly. It has certainly taught me that I'm a learn by doing type of person though. Trystorming vs brainstorming I guess. So for our next moves I need to figure out how to "try before I buy" without too much upheaval.

      In hindsight I was good at my work but I'm now coming to realise that over a long period of time it moved from being meaningful work / a career to being a job. A little more processing to be done but that's the conclusion I'm currently reaching.

      "You have reached a kind of crossroads ( or spaghetti junction ) where you have lots of options and choices that you can make." I realise I'm / we're incredibly fortunate to have this available to us and I'm definitely going to make the most of it.

    4. I like Myers Briggs too (I'm an INFJ - which is a fairly accurate description). But the science isn't really there to support it. It's a nice story potentially getting in the way of the facts.

      My view is that worthwhile learning sometimes needs to be expensive. Cyprus might not have worked out, but it was still worth trying - and if it results in more frequent mini-experiments rather than lots of upfront analysis, then it was powerfully useful learning.

  4. very nice work - it does a very good job of working out something that is very hard to conceptualise in your own head.
    My view is that if you have all your ducks in a row (low cost trackers, minimised fees and no risky/exotic investments) then you are resigned to your fate - your assets have grown or shrunk with boom/bust before you retire and your drawdown + boom/bust after you retire gives you what you have.
    What is probably true is that there will be ups and downs but money invested in low cost ETF trackers has a lower volatility than your income from paid employment over a 30 year time period.
    In fact, as time goes by, the deviation will probably only become stronger!
    It's a much better position to for a squirrel to have saved his nuts for Winter and then enjoy a nice hibernation than to have to frantically scratch the dirt in Autumn for the last few acorns as the days are getting colder and poor Mr. Squirrel weaker and weaker!

  5. And so, like Boethius' wheel, we come full circle back to full-time employment in the UK discussing the minutiae of safe withdrawl rates.. Comfort in the familiarity I presume?

    “It's my belief that history is a wheel. 'Inconstancy is my very essence,' says the wheel. Rise up on my spokes if you like but don't complain when you're cast back down into the depths. Good time pass away, but then so do the bad. Mutability is our tragedy, but it's also our hope. The worst of time, like the best, are always passing away.”

  6. Interesting topic. Hope you've settled back into work life. I'm glad you're posting again, as helpful to aspiring FIRE advocates.

    Personally I think you are being too conservative.

    A UK early retiree opts for early retirement on £1m, using the 4% rule, withdraws 4% per year. How much is left by the end of his life? Not £Nil, but £1m! That's quite an estate to leave to pass on.

    As the 4% rule assumes you spend none of your principal, but only the returns/interest on your investments. Surely you'd want to factor in drawing on your investments (at least to some extent), and also the state pension (which would be extremely difficult for politicians to withdraw completely).

    I grant state pensions could be means tested, but we have the lowest state pension in Europe and pensioners are a key voting group, so I think pensions would be difficult for a hard left govt to target too severely.

    The S&P 500 with divis reinvested (adjusted for CPI) over the last 50 years is a return of 6.75% p.a. If you have a portfolio of say 65% stocks and 35% bonds/cash/other, I think 4% withdraw is sensible.

    Do you agree? Thanks

    1. The 4% rule derives from the fact the this is the maximum withdrawal rate you can use without depleting the pricipal to zero. So it assumes that you can spend your principal. In many scenarios you will not spend that principal and will be left with a capital amount greater (in real terms) than your original principal. Nonetheless, there are scenarios where you deplete most of your principal. This number, however, also comes with many assumptions: US data only, 30-year horizon, specific asset allocation, no fees etc. It is not valid for a UK investor without significant modification and thought.

  7. Rancid political opinions unnecessary

  8. Anon-referring to me? The prospect of a Corbyn govt is a risk, to savers. Just as brexit and trump's trade war is also a risk. Landowners homeowners and investors are the ones who would need to pay any spending plans. The uk debt is already c2 trillion. There is no magic money tree.

    1. No there isn't a magic money tree. In fact there are two magic money trees. Outside money created by the sovereign through expenditure (which may be sterlized through bond issuance or taxation) and inside money created ab initio by banks lending. The majority of all money is created through this second channel.

      In a modern fiat currency system therefore the quantity of money is not constrained at all. Only the price of money is constrained through monetary policy.

      Given virtually ever developed economy since the end of the Bretton Woods now constrains the price of money but not the quantity then to be precise it should be said that there is now a global forest of magic money trees!

      Of course the risk is that people can't see the wood for the trees.