Author Topic: Is 5% realistic? How do you get that?  (Read 1498 times)

GOFU

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Is 5% realistic? How do you get that?
« on: January 29, 2018, 08:58:03 PM »
On a 100k Vanguard account, 5% gains in dividends and capital gains should be 5k. What is the asset mix required to achieve that? I thought it could be done at 70 stock/20 bonds/10 cash, but on my mix dividends and capital gains for 2017 were not even 2%.

Let's say you reach your goal of a portfolio of one million, and you want 5% earnings so as to generate $50k in earnings for living, how do you do get that result?

Doing this via Vanguard funds specifically is most interesting to me.

Thanks!

nereo

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Re: Is 5% realistic? How do you get that?
« Reply #1 on: January 30, 2018, 07:44:05 AM »
I think you have some fundamental misunderstandings about dividends, capital gains and earnings.

Dividends are rewards companies pay to shareholders - typically quarterly - for holding their stock. They range from 0% (no dividend paid) to well over 5% for a select few stocks. As an investor you can take the cash from those dividends or you can reinvest them into buying more shares.  At present, the broader SP500 has an average yield of just over 2%.  You could invest in funds (or individual stocks) which only pay out very large dividends, but as cost the company money (reduced cash-flow) these stocks sacrifice increases in share price for high dividend yields.

Capital Gains are increases in an underlying asset.  If you buy a single share of stock for $100 and it goes up to $110, you have capital gains of $10 (which is 10%). Likewise, if that same share pays out 2% you have capital gains which include those dividends.

Earnings, as discussed in regards to investing is simply the income from your investments which you then use to live off of.  If you are saying you want 5% earnings you are talking about having a 5% withdraw rate (WR)... which is a bit higher than recommended if you plan on living on that retirement for 20+ years. 
Many here fix on a 4% WR, which is the basis of the now-famous Trinity study and has historically provided a portfolio which has survived 30 year time periods under almost every market condition.

You stated that your mix of dividends and capital gains for 2017 was not even 2%?  I find that very hard to believe, as the broader market returned 21.1% that year. What are you invested in?

GOFU

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Re: Is 5% realistic? How do you get that?
« Reply #2 on: January 30, 2018, 10:24:00 AM »
Nereo:

I accidentally double posted on this topic. In the other thread someone explained that I was obviously looking at the wrong thing to conclude my rate of return. Turns out I was only looking at dividends paid as set forth in the year-end statement. That was slightly under 2%, consistent with the information you provide.

The personal performance page of the Vanguard site informs me that my rate of return for 2017 was 17.4% on roughly 70/10/20. I was cash heavy throughout the year for different reasons so I underperformed compared to the overall market.

During my earning/saving career I have and still continue to reinvest all dividends.

I understand now that in order to realize these gainzzz and live off investment returns, I will need to take the dividends as cash instead of shares and/or sell shares that have increased in value at a rate that does not risk depleting the store. As you mention, 4% has received much acclaim here and elsewhere.

Years ago money market funds were paying about 4% and I used to daydream that all I need to do is get my pile up to a million five or so, convert it to money market shares, and I can just live off the $60k in interest and keep the pile in tact with no risk. I guess that is why I carried with me the idea of living off income the pile generates instead of consuming the pile too. But it seems that without other income to live the pile must be consumed, but at a rate that allows it to replenish itself. I consume the water in my well the same way.

Your explanation was incisive and helpful. Thank you.

nereo

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Re: Is 5% realistic? How do you get that?
« Reply #3 on: January 30, 2018, 10:58:23 AM »
Nereo:

I accidentally double posted on this topic. In the other thread someone explained that I was obviously looking at the wrong thing to conclude my rate of return. Turns out I was only looking at dividends paid as set forth in the year-end statement. That was slightly under 2%, consistent with the information you provide.

The personal performance page of the Vanguard site informs me that my rate of return for 2017 was 17.4% on roughly 70/10/20. I was cash heavy throughout the year for different reasons so I underperformed compared to the overall market.

During my earning/saving career I have and still continue to reinvest all dividends.

I understand now that in order to realize these gainzzz and live off investment returns, I will need to take the dividends as cash instead of shares and/or sell shares that have increased in value at a rate that does not risk depleting the store. As you mention, 4% has received much acclaim here and elsewhere.

Years ago money market funds were paying about 4% and I used to daydream that all I need to do is get my pile up to a million five or so, convert it to money market shares, and I can just live off the $60k in interest and keep the pile in tact with no risk. I guess that is why I carried with me the idea of living off income the pile generates instead of consuming the pile too. But it seems that without other income to live the pile must be consumed, but at a rate that allows it to replenish itself. I consume the water in my well the same way.

Your explanation was incisive and helpful. Thank you.

Glad my explanation was helpful, if not redundant.  I'd like to address the bolded part above, because I think it is important.
The reason money market funds were paying out 4% (and at times >>4%) was because the Fed had set interest rates high.  He (this was pre-Yalen) was doing this to combat inflation, which was a very big deal for much of the 70s and 80s.
As such, returns of 4% in a money market fund were NOT 'risk free', as inflation was constantly eating away at the value of your principle. Broadly speaking money market funds are always roughly around the anticipated inflation rate (with some variance).
Ergo, today's MMA with 2% yields are no 'worse than 5% yields from the early 80s, because the inflation rates lately have been around 2%.

Under almost all historical situations, a 4% WR actually leads to a slowly increasing portfolio.  At ~3.5% WR every historical time period has yielded a larger portfolio after 30 years.  In other words, after 30 years you will have more money than you started with, assuming the future decades are no worse than the worst economic 3-decade period of the previous 100 years.

GOFU

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Re: Is 5% realistic? How do you get that?
« Reply #4 on: January 30, 2018, 11:19:54 AM »
Not redundant at all.

Points well taken re: inflation risk to principal and relation to money market rates. You've straightened my thinking on several points today. Thank you again.