Thoughts on "magic number" vs. market cycle

[Trede]

The general construct I've been thinking about lately is "My target investment (magic number) for FIRE is $X based on the 4% rule, but $X-y if the near-term market looks promising, or $X+z if the near-term market feels about ready for a correction."

I can't decide if this is reasonable thinking or emotional thinking.  The argument for reasonable for the $X+z is that it's a hedge for sequence of returns risk, an accepted and real thing, which presumably is objectively higher when retiring on the far edge of a bull market.  I'm not sure if the $X-y side has a reasonable interpretation or if it's just optimism, but then again if adjustments on one side is reasonable why isn't the other?

The Trinity study has that all baked in though, right?  $X should be $X and accounts for the sequence of return risk already?

Of course, I'm currently in the throes of OLY/OMY thinking and what my criteria are for pulling the trigger.  Any and all thoughts along this path are welcome.

[PloddingInsight]

The 4% rule takes into consideration the possibility of a downturn just after retirement.  Don't follow it blindly, but in theory if you're using 4% you should just be worrying about $X, not $X plus a safety margin.  The safety margin is in there already.

EDITED bc I didn't read the OP closely enough.

[bluebelle]

Our magic number has a buffer of travel dollars built in.  We have a number than we need to keep food on the table and the lights on, and a number to live the life we want (basically how we're living now).  My target is 25X the bigger number.....if the markets are off; we scale back a few years until things rebound.  You'll make yourself crazy trying to find the perfect number.

So I suppose you could say we have a 'z' value
25x luxurious retirement - 25x our bare necessities number = z.....but I don't want to spend my retirement with the bare necessities.

[jlcnuke]

Yes, it's all baked in. That doesn't preclude people from having emotional desires to consider that the future could be better or worse than the past (i.e. making the previous results not representative of future possibilities).

[tct]

Consider the following hypothetical scenario. I reach my FI number based on 4% rule in 2017.  Stache is $1 million. I decide on OMY since I believe the market is nearing the end of a long upward run and I want to build in a small buffer. Fast forward to 2018. I contribute $60k additional dollars to my stache, however with a major correction in the market, my stache is now only $560k. Do I continue working to get my stache back to the $1 million mark. Or do I tell myself I hit my magic number back in 2017 and I'm ready to FIRE?

[ysette9]

I’m curious about this as well and think that the following article is related. It discusses the idea of having more bonds just before and just after retirement to protect from sequence of returns risk. What are your thoughts? The idea of having that many bonds in the last ten years accumulation phase seems to not quite like I with a mistachian who may only have a 10-15 year working career. However I think the idea is sound and is worth considering.

I’m wrestling with myself and would love to brainstorm with others.

https://www.kitces.com/blog/managing-portfolio-size-effect-with-bond-tent-in-retirement-red-zone/

[edgema]

In theory it is all baked in, but I personally think it would be emotionally tough to look through a big equity/economic downturn just after you retire if you are a >90% equity person (I am not). Depends on so many things it is hard to generalise. However, personally I don't think it would be prudent to FIRE now on 100% equities, a bare bones stash level, and assume historic levels returns unless you are comfortable cutting expenditure if the market tanks and/or can go back to work. It is a factual statement that markets are at historically high P/E multiples and you don't need to believe a crash is coming to conclude that being a little more conservative probably makes sense. 

While the models may say that your failure rate is, say, 5%, that doesn't mean it wasn't a stressful ride for the 5-25 percentiles who made it, but it got a little hairy. I suppose that supports an X+Z approach.

Speaking personally my targets are super conservative as I don't want any risk of having to go back to work, know that I cannot return to anywhere near my current earnings 5 years from now (or return at all), and don't want to need to do side gigs / low paid work. I am also a worrier, and don't want one of those worries to be money. Further, I am relatively young at 41 so hopefully looking at a pretty long runway ahead.

As such, I am OMYing to give me a big buffer on a stash that is probably large enough already. I don't think the 50 year old me will look back angrily at the 8 rather than 9 years he has been retired. No saying it was easy to 'sign up' for another year but when I made the decision it felt right for me. Note that I wrote a letter to the March 2019 me to tell him not to do another though! 

[bluebelle]

I also think that what equities you're in changes as you get closer to FIRE or post FIRE.   Not everything looses 50% in a correction....Blue Chip weathers the storm much better than the average.  You don't get the huge swings in either direction....

But if you're at your FIRE number, you don't need to be chasing the big returns, you just need to be keeping ahead of inflation.  I don't have the stomach to ride that ride in retirement.   

[bluebelle]

... OLY/OMY thinking ...

I was about to ask what OLY was, but it dawned on my One Less Year

Posting in case others are as slow as me.....

[Jrr85]

The general construct I've been thinking about lately is "My target investment (magic number) for FIRE is $X based on the 4% rule, but $X-y if the near-term market looks promising, or $X+z if the near-term market feels about ready for a correction."

I can't decide if this is reasonable thinking or emotional thinking.  The argument for reasonable for the $X+z is that it's a hedge for sequence of returns risk, an accepted and real thing, which presumably is objectively higher when retiring on the far edge of a bull market.  I'm not sure if the $X-y side has a reasonable interpretation or if it's just optimism, but then again if adjustments on one side is reasonable why isn't the other?

The Trinity study has that all baked in though, right?  $X should be $X and accounts for the sequence of return risk already?

Of course, I'm currently in the throes of OLY/OMY thinking and what my criteria are for pulling the trigger.  Any and all thoughts along this path are welcome.

Look at early retirement now.  There is a post there that addresses this that I will tries to address this type of thing.  Basically, it shows that if using a target number, people's retirement dates will be bunched at market peaks, and it does lower the safe withdrawal rate (I think to the high 3%'s?).  If I have a chance I'll look for it.

ETA:  Found it right off.  https://earlyretirementnow.com/2017/12/13/the-ultimate-guide-to-safe-withdrawal-rates-part-22-endogenous-retirement-timing/

Basically, retiring when you hit the 25X does raise the failure rate of the 4% rule, but not by a huge amount. 

If I hit my number at a time like today where we currently in a historically long bull run, I'd probably have to build in some wiggle room to make sure we're not at the peak of a bull market.  Of course, if we have a major correction, it might take a few years to recover and if you have plans for working during retirement anyway, maybe it's not that big of a deal. 

[NorthernBlitz]

Look at early retirement now.  There is a post there that addresses this that I will tries to address this type of thing.  Basically, it shows that if using a target number, people's retirement dates will be bunched at market peaks, and it does lower the safe withdrawal rate (I think to the high 3%'s?).  If I have a chance I'll look for it.

ETA:  Found it right off.  https://earlyretirementnow.com/2017/12/13/the-ultimate-guide-to-safe-withdrawal-rates-part-22-endogenous-retirement-timing/

Basically, retiring when you hit the 25X does raise the failure rate of the 4% rule, but not by a huge amount. 

If I hit my number at a time like today where we currently in a historically long bull run, I'd probably have to build in some wiggle room to make sure we're not at the peak of a bull market.  Of course, if we have a major correction, it might take a few years to recover and if you have plans for working during retirement anyway, maybe it's not that big of a deal.

Especially since we only have one 30 year period where people retired with a CAPE > 30 (beginning on black Tuesday). I don't know if that's a failure timeline, but the Dow was 4,800 in June of 1929 and didn't get back to that number until 1958.
http://www.macrotrends.net/1319/dow-jones-100-year-historical-chart

That's why I think I want to go from a 4% WR (25x) to 3.3-3.5 WR (28.5-30x). When I'm already at 25x spending, I don't think it will take very long to get to 28.5 - 30x. At that point, I'll likely be (1) saving 50% of my income (1x spending) and (2) potentially also earning another 1x spending through investment gains (if it's 4%). If I get a 10% return in year 1, then I'll get to 28.5x in one year.

It's probably too conservative, but I'd rather work a few extra years with a very high salary than be looking for more menial jobs during a downturn.

[Jrr85]

Look at early retirement now.  There is a post there that addresses this that I will tries to address this type of thing.  Basically, it shows that if using a target number, people's retirement dates will be bunched at market peaks, and it does lower the safe withdrawal rate (I think to the high 3%'s?).  If I have a chance I'll look for it.

ETA:  Found it right off.  https://earlyretirementnow.com/2017/12/13/the-ultimate-guide-to-safe-withdrawal-rates-part-22-endogenous-retirement-timing/

Basically, retiring when you hit the 25X does raise the failure rate of the 4% rule, but not by a huge amount. 

If I hit my number at a time like today where we currently in a historically long bull run, I'd probably have to build in some wiggle room to make sure we're not at the peak of a bull market.  Of course, if we have a major correction, it might take a few years to recover and if you have plans for working during retirement anyway, maybe it's not that big of a deal.

Especially since we only have one 30 year period where people retired with a CAPE > 30 (beginning on black Tuesday). I don't know if that's a failure timeline, but the Dow was 4,800 in June of 1929 and didn't get back to that number until 1958.
http://www.macrotrends.net/1319/dow-jones-100-year-historical-chart

That's why I think I want to go from a 4% WR (25x) to 3.3-3.5 WR (28.5-30x). When I'm already at 25x spending, I don't think it will take very long to get to 28.5 - 30x. At that point, I'll likely be (1) saving 50% of my income (1x spending) and (2) potentially also earning another 1x spending through investment gains (if it's 4%). If I get a 10% return in year 1, then I'll get to 28.5x in one year.

It's probably too conservative, but I'd rather work a few extra years with a very high salary than be looking for more menial jobs during a downturn.

You have to remember though that there was significant deflation over parts of that time period, so the nominal return isn't nearly as bad as it looks.  I believe the worst year to retire was sometime in the 60's or maybe early 70's because you had poor nominal returns combined with high inflation. 

Still probably the third worst time frame to retire, after the time in the 60's or early 70's and then around 2000 (which may or may not be a failure time period, but is certainly off to a bad start)

[Trede]

Great discussion so far and I really appreciate everyone's input.  Jrr85 and ysette9, both of the articles/blogs you linked have expanded my thinking.  I'd heard of the equity glidepath before but not the "bond tent."  I've already instinctively shifted my allocation toward bonds for the reasons in the Kitces article, but I'll have to crawl his site a bit to see if he's quantified how big a shift is recommended.  I've not shifted anywhere close to the level of bonds shown in his example graph but I think its point was to qualitatively demonstrate the concept, not make a 70+% bond allocation recommendation at the peak.

[Eric]

The general construct I've been thinking about lately is "My target investment (magic number) for FIRE is $X based on the 4% rule, but $X-y if the near-term market looks promising, or $X+z if the near-term market feels about ready for a correction."

I can't decide if this is reasonable thinking or emotional thinking.  The argument for reasonable for the $X+z is that it's a hedge for sequence of returns risk, an accepted and real thing, which presumably is objectively higher when retiring on the far edge of a bull market.  I'm not sure if the $X-y side has a reasonable interpretation or if it's just optimism, but then again if adjustments on one side is reasonable why isn't the other?

The Trinity study has that all baked in though, right?  $X should be $X and accounts for the sequence of return risk already?

Of course, I'm currently in the throes of OLY/OMY thinking and what my criteria are for pulling the trigger.  Any and all thoughts along this path are welcome.

Yes, the Trinity Study has that baked in, and at the same time, it's entirely reasonable to adjust your retirement number based on current market conditions.  Some of the Trinity Study "successes" are not all that great and would definitely not have made it past 35-40 years, so if your retirement is going to be longer than 30 years, it may be prudent to be a bit more conservative.  And hopefully it's obvious, but the Trinity Study methodology is not a future prediction.  It's backwards looking only.

Current valuations certainly point to low(er) returns in the near future.  While no one knows for sure what the exact future returns will be, there's a pretty strong correlation between PE and 8-10 year returns. 

https://www.kitces.com/blog/shiller-cape-market-valuation-terrible-for-market-timing-but-valuable-for-long-term-retirement-planning/

So while we all have safety margins built in, how many of your safety margins are you actually willing to implement right away?  If you're going to retire tomorrow, do you have a plan that you're comfortable with to deal with those likely low(er) returns that are coming soon?

Note - this subject is near and dear to my heart, as I hit my number a few months back :)

[LWYRUP]

My very simple way of thinking about this is:

If you FIRE and the market crashes, pick up some extra income somehow to build a safety buffer. 

If you FIRE and the market soars, great! 

[Eric]

I’m curious about this as well and think that the following article is related. It discusses the idea of having more bonds just before and just after retirement to protect from sequence of returns risk. What are your thoughts? The idea of having that many bonds in the last ten years accumulation phase seems to not quite like I with a mistachian who may only have a 10-15 year working career. However I think the idea is sound and is worth considering.

I’m wrestling with myself and would love to brainstorm with others.

https://www.kitces.com/blog/managing-portfolio-size-effect-with-bond-tent-in-retirement-red-zone/

I love the idea in theory.  Although, I think the holding more bonds just after retirement is more valuable than holding more before retirement.  I say this because no matter how many bonds I was holding, I highly doubt I'd actually quit in the middle of a market crash. 

I'm not sure I'd ever be able to hold 70% bonds though, and I don't think it's entirely helpful to stay holding your extra bonds for such an extended period of time.  As such, I've been looking at modified versions of it and I've modeled this some on my own.  If you move from 40% bonds to 20% bonds over 5 years, and have "perfect" market timing (retire at the start of the year 2000), your portfolio is about 8% higher than a static 20% bonds after 5 years.  Now of course you're unlikely to retire right before a crash like those 2000 retirees, so the effect is likely less than that.  So it seems like a reasonable measure to me, but of course you're also facing the possibility of accepting lower returns for your first years if the market keeps rising.  The more bonds you hold, the higher the downside is if there is no crash.

There's a couple of posts on Early Retirement Now about it, with more modeling and outcomes.  I think the level of granularity is a bit over the top, but at the same time, there appears to be some added benefit, even if it's small.

https://earlyretirementnow.com/2017/09/13/the-ultimate-guide-to-safe-withdrawal-rates-part-19-equity-glidepaths/

https://earlyretirementnow.com/2017/09/20/the-ultimate-guide-to-safe-withdrawal-rates-part-20-more-thoughts-on-equity-glidepaths/

[Trede]

I'm kind of now seeing the strategy of holding extra cash at the start of FIRE as an extension of the bond tent idea.  I'd always thought the strategy with the cash was "use it if the market goes down" like a retirement emergency fund.  Applied to the bond tent, the strategy would be "use it on a glidepath basis no matter what the market does, and use extra if the market goes down."

[ysette9]

I love the idea in theory.  Although, I think the holding more bonds just after retirement is more valuable than holding more before retirement.  I say this because no matter how many bonds I was holding, I highly doubt I'd actually quit in the middle of a market crash. 

I agree with you here that if I’ve hit my number and then the market dumps, I’m going to hang around my job some more, even if the dump still doesn’t get me below my number. It is a psychological thing. It is easier to ride out the job for another year than wake up in a panic in the middle of the night.

That isn’t really the scenario I’m thinking about though. We are somewhere in the order of 80% of our FIRE number, give or take. If things stay flat, just our contributions will get us there in another 4 years. If the market continues on this crazy upwards path, we will get there sooner. If the market dumps for the next 3 years, I have significantly pushed out my FIRE date (from 3-4 years to 4-8, depending on how recovery goes). In the grand scheme of things we still aren’t talking about a lot of years, but mentally the thought of doubling the years left to FI is hard to swallow. I understand more the mindset of wealth preservation.

I don’t have an answer yet. I’m hoping to get my husband to read the Kitces article so we can talk over it together. We are blessed to have been employed during the last dump so we were contributing at the lows. On the other hand I feel nervous getting close to FI with an economic recovery that is old enough to be in elementary school. Before I end up going down the path of market timing or calling “the top is in!” I’ll quit my musings.... :)

[Jrr85]

I love the idea in theory.  Although, I think the holding more bonds just after retirement is more valuable than holding more before retirement.  I say this because no matter how many bonds I was holding, I highly doubt I'd actually quit in the middle of a market crash. 

I agree with you here that if I’ve hit my number and then the market dumps, I’m going to hang around my job some more, even if the dump still doesn’t get me below my number. It is a psychological thing. It is easier to ride out the job for another year than wake up in a panic in the middle of the night.

That isn’t really the scenario I’m thinking about though. We are somewhere in the order of 80% of our FIRE number, give or take. If things stay flat, just our contributions will get us there in another 4 years. If the market continues on this crazy upwards path, we will get there sooner. If the market dumps for the next 3 years, I have significantly pushed out my FIRE date (from 3-4 years to 4-8, depending on how recovery goes). In the grand scheme of things we still aren’t talking about a lot of years, but mentally the thought of doubling the years left to FI is hard to swallow. I understand more the mindset of wealth preservation.

I don’t have an answer yet. I’m hoping to get my husband to read the Kitces article so we can talk over it together. We are blessed to have been employed during the last dump so we were contributing at the lows. On the other hand I feel nervous getting close to FI with an economic recovery that is old enough to be in elementary school. Before I end up going down the path of market timing or calling “the top is in!” I’ll quit my musings.... :)

If you have a goal of retiring in 4 years or less and you really don't want to extend it, you should be upping your bond allocation now (if you believe the equity glidepath argument or bond tent if you prefer that terminology).  If the market tanks, you would of course rebalance back into stocks, and that would limit the amount of time you need to recover. 

Of course the flip side of this is that while you are limiting your worst case scenario, you are pushing back your average expected retirement date (if you believe the current level of CAPE, age of the bull market, etc. doesn't provide any insight into the near term returns).   

[ysette9]

Yep, I hear what you’re saying. I feel like I need time to reflect on this and make sure that  any move I make is not in response to feelings about the valuation of the market or other such hand waving. I have shown myself to be particularly bad at guessing where individual stocks are heading and so I don’t want to investing decisions on my feelings but data.

[Catbert]

I think people in retirement should figure out where the needed cash for the next 3-5 years will come from.  And selling stocks in a possible downturn isn't an appropriate "where".  It could be bond interest/maturity, stock dividends, income from rental real estate, CDs or just plain cash.  There may be others that don't come to mind. 

In my case I have 3 rental properties with a positive cash flow,  10 year zero coupon bond ladder and have all dividends and capital gains internal to mutual funds paid out in cash.  I retired in 2009 and never lost a minute of sleep worrying about the market.

[NorthernBlitz]

Look at early retirement now.  There is a post there that addresses this that I will tries to address this type of thing.  Basically, it shows that if using a target number, people's retirement dates will be bunched at market peaks, and it does lower the safe withdrawal rate (I think to the high 3%'s?).  If I have a chance I'll look for it.

ETA:  Found it right off.  https://earlyretirementnow.com/2017/12/13/the-ultimate-guide-to-safe-withdrawal-rates-part-22-endogenous-retirement-timing/

Basically, retiring when you hit the 25X does raise the failure rate of the 4% rule, but not by a huge amount. 

If I hit my number at a time like today where we currently in a historically long bull run, I'd probably have to build in some wiggle room to make sure we're not at the peak of a bull market.  Of course, if we have a major correction, it might take a few years to recover and if you have plans for working during retirement anyway, maybe it's not that big of a deal.

Especially since we only have one 30 year period where people retired with a CAPE > 30 (beginning on black Tuesday). I don't know if that's a failure timeline, but the Dow was 4,800 in June of 1929 and didn't get back to that number until 1958.
http://www.macrotrends.net/1319/dow-jones-100-year-historical-chart

That's why I think I want to go from a 4% WR (25x) to 3.3-3.5 WR (28.5-30x). When I'm already at 25x spending, I don't think it will take very long to get to 28.5 - 30x. At that point, I'll likely be (1) saving 50% of my income (1x spending) and (2) potentially also earning another 1x spending through investment gains (if it's 4%). If I get a 10% return in year 1, then I'll get to 28.5x in one year.

It's probably too conservative, but I'd rather work a few extra years with a very high salary than be looking for more menial jobs during a downturn.

You have to remember though that there was significant deflation over parts of that time period, so the nominal return isn't nearly as bad as it looks.  I believe the worst year to retire was sometime in the 60's or maybe early 70's because you had poor nominal returns combined with high inflation. 

Still probably the third worst time frame to retire, after the time in the 60's or early 70's and then around 2000 (which may or may not be a failure time period, but is certainly off to a bad start)

I agree that the 1930 timeline isn't the worst ever and deflation "helped" those that retired just before the crash. The problem is that it's the only case where CAPE was 30 (and we're not > 33). "A test of one is a test of none", but I think it's reasonable to assume that sequence of returns risk is higher now than it was in 2010 when the CAPE was ~ 20).

My points were:
(1) the first 10 years after retirement are an important indicator for sequence of returns risk,
(2) CAPE is apparently a reasonable predictor of market performance in the 8-10 year timeline, and
(3) we only have one timeline where CAPE at retirement was ~ 30 (it's currently 33.5). That timeline wasn't particularly good (although I don't know if it's a timeline that failed in the Trinity study).

From this, I would not be super confident in the success rates attributed to WRs from Trinity Study type analyses if I were retiring today. There isn't enough data to assess the sequence of returns risk is now and saying it's the same as it was when CAPE was generally between 10 --> 25 might not be reasonable.*

I do agree with folks who argue that flexibility is important. But, working for 1-2 extra years means that it's harder for us to get wiped out if we're put in an inflexible situation (i.e. no one wants to hire you during a recession when you have no recent work experience OR large "unforeseen" medical expense).

* Note: Has anyone seen anything that looks at the correlation between SWRs and CAPE using a Trinity type analysis? My whole argument here is that they are related because I think CAPE should be correlated to SoR risk...but maybe it's not. It feels like this would be a cool idea for a paper / blog post. Hopefully, someone's written it already.

[Eric]

* Note: Has anyone seen anything that looks at the correlation between SWRs and CAPE using a Trinity type analysis? My whole argument here is that they are related because I think CAPE should be correlated to SoR risk...but maybe it's not. It feels like this would be a cool idea for a paper / blog post. Hopefully, someone's written it already.

This explores it.  But of course, like you said, the sample size is very small, so add lots of salt.

https://earlyretirementnow.com/2016/12/21/the-ultimate-guide-to-safe-withdrawal-rates-part-3-equity-valuation/

[ysette9]

I don’t pretend to be an expert on the at all, but I have read a number of places that changes in accounting laws meant that the definition of the CAPE is not the same over time. Can anyone speak to that?

[Jrr85]

Especially since we only have one 30 year period where people retired with a CAPE > 30 (beginning on black Tuesday). I don't know if that's a failure timeline, but the Dow was 4,800 in June of 1929 and didn't get back to that number until 1958.
http://www.macrotrends.net/1319/dow-jones-100-year-historical-chart

That's why I think I want to go from a 4% WR (25x) to 3.3-3.5 WR (28.5-30x). When I'm already at 25x spending, I don't think it will take very long to get to 28.5 - 30x. At that point, I'll likely be (1) saving 50% of my income (1x spending) and (2) potentially also earning another 1x spending through investment gains (if it's 4%). If I get a 10% return in year 1, then I'll get to 28.5x in one year.

It's probably too conservative, but I'd rather work a few extra years with a very high salary than be looking for more menial jobs during a downturn.

You have to remember though that there was significant deflation over parts of that time period, so the nominal return isn't nearly as bad as it looks.  I believe the worst year to retire was sometime in the 60's or maybe early 70's because you had poor nominal returns combined with high inflation. 

Still probably the third worst time frame to retire, after the time in the 60's or early 70's and then around 2000 (which may or may not be a failure time period, but is certainly off to a bad start)
[/quote]

I agree that the 1930 timeline isn't the worst ever and deflation "helped" those that retired just before the crash. The problem is that it's the only case where CAPE was 30 (and we're not > 33). "A test of one is a test of none", but I think it's reasonable to assume that sequence of returns risk is higher now than it was in 2010 when the CAPE was ~ 20).

My points were:
(1) the first 10 years after retirement are an important indicator for sequence of returns risk,
(2) CAPE is apparently a reasonable predictor of market performance in the 8-10 year timeline, and
(3) we only have one timeline where CAPE at retirement was ~ 30 (it's currently 33.5). That timeline wasn't particularly good (although I don't know if it's a timeline that failed in the Trinity study).

From this, I would not be super confident in the success rates attributed to WRs from Trinity Study type analyses if I were retiring today. There isn't enough data to assess the sequence of returns risk is now and saying it's the same as it was when CAPE was generally between 10 --> 25 might not be reasonable.*

I do agree with folks who argue that flexibility is important. But, working for 1-2 extra years means that it's harder for us to get wiped out if we're put in an inflexible situation (i.e. no one wants to hire you during a recession when you have no recent work experience OR large "unforeseen" medical expense).

* Note: Has anyone seen anything that looks at the correlation between SWRs and CAPE using a Trinity type analysis? My whole argument here is that they are related because I think CAPE should be correlated to SoR risk...but maybe it's not. It feels like this would be a cool idea for a paper / blog post. Hopefully, someone's written it already.
[/quote]

I'm an idiot.  Completely missed the bolded statement. 

And the blog earlyretirementnow.com does a pretty good dive into how higher CAPE valuations elevate sequence of return risk and lower safe withdrawal rates. 

[Eric]

I don’t pretend to be an expert on the at all, but I have read a number of places that changes in accounting laws meant that the definition of the CAPE is not the same over time. Can anyone speak to that?

I can a bit.  The short answer is that earnings are tougher to come by now because of changes in accounting standards and the introduction of GAAP and SOX.  In addition, the gradual shift of companies to prefer stock buybacks and/or re-investment instead of paying dividends also drives a higher PE.  Because of these two, plus other minor factors, it's not necessarily an apples to apples comparison to look at PE levels from 1950 vs 2010.  (or whatever)  As such, don't expect CAPE to fully revert to its long term mean, as these accounting differences and lower dividends results in a higher average valuation.

This post dives pretty deep if you want the full explanation:

http://www.philosophicaleconomics.com/2013/12/shiller/

[MaaS]

I know the "right" answer is the 4% rule covers it.

But, if I were deciding whether to FIRE right now, I'd want to have a buffer beyond the 4%.

I'd feel more comfortable at 4% if we weren't in the midst of one of the longest bull runs ever. 

[Trede]

I don’t pretend to be an expert on the at all, but I have read a number of places that changes in accounting laws meant that the definition of the CAPE is not the same over time. Can anyone speak to that?

I found this paper awhile ago but it's entirely too wonky for me, but I think it attempts to address the topic:
https://www.cfapubs.org/doi/pdf/10.2469/faj.v72.n3.1

[MayDay]

Most of the stuff posted in this thread is way over my head, but market cycle will definitely effect my decision. I'll be on the young side (40-45) so a lot of years I need to fund. I definitely won't retire if the market looks shaky. I don't know yet how exactly I will know to pull the trigger. Healthcare uncertainty on top of market uncertainty is probably the worst case scenario.

[Laura33]

I think people in retirement should figure out where the needed cash for the next 3-5 years will come from.  And selling stocks in a possible downturn isn't an appropriate "where".

This.  I will make no decisions based on whether I “feel” the market is going up or down.  If I let myself be controlled by my feelings, I’d never have invested in the first place, because the market had been on a big bull run for almost a decade when I started.  That was the early ‘90s, btw.  Very happy now I went with math over emotions.

I am managing my fears by managing where I put my money.  Specifically, I will have about 3 years’ expenses in CDs, cash, and/or bond ladder, none of which I count toward the 25x necessary under the 4% rule.*  That gives me the confidence to keep all of the rest in stocks, because I know I won’t have to sell low.

This is conservative.  But so am I: we are retiring later than most here, and walking away from high-paying jobs that generally don’t suck, so it’s much less painful to work another year on the front end than it would be to try to find some minimum wage job a few years later.  Plus our budget includes a lot of fluff for travel, so if the market tanks, we can cut some of that or hit cheaper destinations.

*Note that we are not relying on the 4% rule but instead “bucket” approach, so it’s not precisely 25x; in fact, it’s less that 25x our first year’s budget, so our fluff factor would actually bring the total closer to the 25x figure.

[dude]

I’m curious about this as well and think that the following article is related. It discusses the idea of having more bonds just before and just after retirement to protect from sequence of returns risk. What are your thoughts? The idea of having that many bonds in the last ten years accumulation phase seems to not quite like I with a mistachian who may only have a 10-15 year working career. However I think the idea is sound and is worth considering.

I’m wrestling with myself and would love to brainstorm with others.

https://www.kitces.com/blog/managing-portfolio-size-effect-with-bond-tent-in-retirement-red-zone/

I've always gone with the "choose the allocation that helps you sleep at night" idea. For me, that meant a 100% equity allocation early in my career, and a slow, steady tapering to a 60/40 allocation about the time I hit the 5-years-to-go mark.  However, I've also always been partial to Warren Buffet's "be fearful when others are greedy, and greedy when others are fearful" advice. So a few weeks ago, I dropped to 50/50. I'm just over a year from retirement, so I just can't stomach the idea of my portfolio dropping 50%, as many did in 2008. I have a nice pot that I'd like to preserve at least until I'm confident I've avoided a negative sequence of returns early in retirement. And now I have lots of dry powder for when stocks get cheap again. Reversion to the mean is one trend I don't try to fight. I'll get back to somewhere between 60/40 and 75/25 at some point when I feel I've avoided that early retirement risk.

[ysette9]

I had a conversation with my husband about this, high level at least, this past weekend. It is so helpful being able to discuss it out loud with my better half. His perspective was to first map out the average and worst-case scenarios for keeping a 90/10 allocation and a 50/50 allocation to see how that feels. Secondly he pointed out that this whole idea of retiring early is a bonus to him he hadn’t been counting on, so if we have to work five more years because of a downturn, that isn’t a problem to him. While listening to that I realized that if things dumped, our real goal would be to not spend down our nest egg while waiting for the market to recover. That means having enough income to cover our expenses. That is a lot different than us both keeping our current full-time jobs. There is a lot of space where we do something different and meet our expenses. One not working, both working part-time, an international assignment for one while the other follows on sabbatical, etc. That perspective helps me stay optimistic instead of falling into a protectionist/fear mindset.

[Livingthedream55]

I’m curious about this as well and think that the following article is related. It discusses the idea of having more bonds just before and just after retirement to protect from sequence of returns risk. What are your thoughts? The idea of having that many bonds in the last ten years accumulation phase seems to not quite like I with a mistachian who may only have a 10-15 year working career. However I think the idea is sound and is worth considering.

I’m wrestling with myself and would love to brainstorm with others.

https://www.kitces.com/blog/managing-portfolio-size-effect-with-bond-tent-in-retirement-red-zone/

I've always gone with the "choose the allocation that helps you sleep at night" idea. For me, that meant a 100% equity allocation early in my career, and a slow, steady tapering to a 60/40 allocation about the time I hit the 5-years-to-go mark.  However, I've also always been partial to Warren Buffet's "be fearful when others are greedy, and greedy when others are fearful" advice. So a few weeks ago, I dropped to 50/50. I'm just over a year from retirement, so I just can't stomach the idea of my portfolio dropping 50%, as many did in 2008. I have a nice pot that I'd like to preserve at least until I'm confident I've avoided a negative sequence of returns early in retirement. And now I have lots of dry powder for when stocks get cheap again. Reversion to the mean is one trend I don't try to fight. I'll get back to somewhere between 60/40 and 75/25 at some point when I feel I've avoided that early retirement risk.

+ 1 That's my timeline and plan exactly!

[spokey doke]

I struggle a bit with this...Read Kitces and ERN, and lots of Bogleheads threads about CAPE, glidepaths and bond tents, McClung's "Living Off Your Money"., etc...it's a bit of the wild west out there, with enough reasonable debate on most points to create lots of doubt.

BUT...while precision with confidence seems no where to be found, there is enough rough consensus on what is prudent for me to choose a path that feels OK much of the time (sorry, that is about all I can muster)...

[Eric]

I struggle a bit with this...Read Kitces and ERN, and lots of Bogleheads threads about CAPE, glidepaths and bond tents, McClung's "Living Off Your Money"., etc...it's a bit of the wild west out there, with enough reasonable debate on most points to create lots of doubt.

BUT...while precision with confidence seems no where to be found, there is enough rough consensus on what is prudent for me to choose a path that feels OK much of the time (sorry, that is about all I can muster)...

This might have something to do with the fact that predicting the future is hard!  Anything that looks good for "much of the time" is likely a good choice.  Of course, you won't know without hindsight, but making a well informed decision is all any of us can do.

[Monkey Uncle]

I'm surprised no one has made this key point yet: The 4% rule was formulated for a 30-year retirement.  As you extend that period out to 40, 50, or 60 years, you need to reduce the withdrawal rate and/or increase the equity portion of the asset allocation (preferably both) to keep the success rate the same. 

Go run your numbers in cFiresim using your time horizon and asset allocation, and then remember that it is giving you the average historical success rate.  The failure years are clustered around bull market tops, so if you are retiring when the market is making new all-time highs (or not far off the last high), your actual chance of success is likely lower than the average historical success rate.  How much lower?  You won't know until at least a decade later, when your money is either running low or not running low.  Personally, I handle this uncertainty by having a buffer above my basic spending level, and shooting for a 100% success rate.  At least then I know I won't run out unless something worse than the Great Depression and 1970s stagflation occurs (or I've incorrectly estimated my spending, which I think is probably the biggest risk).  It's not a guarantee, but it's as close as I can get.

Regarding the idea of having a cash buffer that you spend down during market downturns: ERN debunked this notion pretty convincingly (https://earlyretirementnow.com/2017/03/29/the-ultimate-guide-to-safe-withdrawal-rates-part-12-cash-cushion/).  In a secular bear market, you will run out of cash long before the return from your stocks catches back up.  To execute this cash buffer strategy according to plan, you would need a ridiculously large cushion, which would decimate your overall returns.

[ysette9]

I hear what you are saying, but I also am fundamentally more optimistic than thinking that the future will be worse than anything else that has ever occurred in the past. That is what you are saying by 100% success rage plis biffer. I prefer to have margin in my ability to decrease my spending temporarily, delay some travel, pick up some cash doing something fun on the side, or so forth. I don’t honestly think we will never earn another dollar after reaching our number nor have the ability to do so if need be.

[FI4good]

My thought are that in 11 years i'll have enough.

I have no magic number, i have no place in a market cycle as a jumping off point.

I do know i can live like a traditional peasant on about 100 euros a week in a paid for 20,000 euro house in france or cave house spain and not feel deprived, been there , done that !

For that kind of living i passed a 4% amount in retirement accounts years ago and even if i converted it all to the equivalent of TIPS i'd probably run out of life before money especially if i include my projected state pension of £7000 p/a at 68 . At the moment i'm saving for quality of life, travel, higher cost of living areas and am buying freedom years backwards from 57 .   

I think for most of the people here, you want FIRE bad enough that one way or another you'll make it work, as the saying says "you'll cut your coat according to your cloth".

[Eric]

I'm surprised no one has made this key point yet: The 4% rule was formulated for a 30-year retirement.  As you extend that period out to 40, 50, or 60 years, you need to reduce the withdrawal rate and/or increase the equity portion of the asset allocation (preferably both) to keep the success rate the same. 

Well, I wouldn't say that no one addressed it. 

Just make sure you're considering sample size when modeling those periods.  Going with a 60 year period greatly decreases the sample size.  I personally think 30 years is just fine for modeling, because I'm not planning on having a low balance at the end of those 30 years.  I would make adjustments along the way if needed in order to have a sustainable balance for another 30.  But overall, I agree that it's important to understand what success looked like and whether that fits with your idea of a retirement longer than 30 years.

Yes, the Trinity Study has that baked in, and at the same time, it's entirely reasonable to adjust your retirement number based on current market conditions.  Some of the Trinity Study "successes" are not all that great and would definitely not have made it past 35-40 years, so if your retirement is going to be longer than 30 years, it may be prudent to be a bit more conservative.  And hopefully it's obvious, but the Trinity Study methodology is not a future prediction.  It's backwards looking only.

[moneytaichi]

The asset allocation is important. We are planning to FIRE this year too so our long-term investment asset allocation is 65% on stocks and 35% on bonds. In addition, we also have over a huge stack of cash on-hand for minimal 5 years of living (in the bank and bonds). I don't want to sell stocks when the market is low. If the stocks really crash, I can even use these cash/bonds to buy more stocks :)

[Monkey Uncle]

I hear what you are saying, but I also am fundamentally more optimistic than thinking that the future will be worse than anything else that has ever occurred in the past. That is what you are saying by 100% success rage plis biffer. I prefer to have margin in my ability to decrease my spending temporarily, delay some travel, pick up some cash doing something fun on the side, or so forth. I don’t honestly think we will never earn another dollar after reaching our number nor have the ability to do so if need be.

I'd say my buffer is more a hedge against errors in my spending estimate than a hedge against a market meltdown, but the 100% success rate definitely is a hedge against something really bad happening in the markets.  I'd like to share your optimism about the future, but no one knows whether something worse than past calamities will happen; there is no a priori reason for assuming that something worse can't happen.  In the cFiresim data set, there have only been four secular bear markets (early 1900s, 1930s-40s, 1970s, 2000s), and only three of them are far back enough in history to be included as starting points in simulations that are at least two decades long.  That's not a very big sample size.  No one knows whether we are perched on the edge of the next secular bear market, but the possibility can't be ruled out.  I sleep better knowing that I could make it through something that resembles the three secular bears of the 20th Century.  Now, if I were retiring in 2010 when we still had a long way to go to recover back to the previous secular bull market peak, I would be a lot more relaxed about the modeled success rate.

But I acknowledge that this line of thinking is a slippery slope.  If anything can happen, you'd better have twice as much as it would take to weather the worst thing that ever happened in history, or three times as much, or...maybe a whole lot more.  Ultimately you're going to have to find your own comfort zone based partly on your gut, because there isn't enough information to get there on facts alone.

BTW, if you have a margin built into your spending, isn't that the same thing as having a buffer?  I guess you're taking a more aggressive approach to it, though, since you are starting out spending your buffer instead of leaving it as an untouched safety valve in case SHTF.

[Monkey Uncle]

I'm surprised no one has made this key point yet: The 4% rule was formulated for a 30-year retirement.  As you extend that period out to 40, 50, or 60 years, you need to reduce the withdrawal rate and/or increase the equity portion of the asset allocation (preferably both) to keep the success rate the same. 

Well, I wouldn't say that no one addressed it. 

Just make sure you're considering sample size when modeling those periods.  Going with a 60 year period greatly decreases the sample size.  I personally think 30 years is just fine for modeling, because I'm not planning on having a low balance at the end of those 30 years.  I would make adjustments along the way if needed in order to have a sustainable balance for another 30.  But overall, I agree that it's important to understand what success looked like and whether that fits with your idea of a retirement longer than 30 years.

Yes, the Trinity Study has that baked in, and at the same time, it's entirely reasonable to adjust your retirement number based on current market conditions.  Some of the Trinity Study "successes" are not all that great and would definitely not have made it past 35-40 years, so if your retirement is going to be longer than 30 years, it may be prudent to be a bit more conservative.  And hopefully it's obvious, but the Trinity Study methodology is not a future prediction.  It's backwards looking only.

Sorry for missing that.  And good point about sample size.  The folks who are going for 50-60 year retirements might want to use a Monte Carlo simulator to get around that issue.

[mxt0133]

...I am also a worrier, and don't want one of those worries to be money.

I have been telling myself this since I got a job as a teenager, grew up poor, when I didn't have two nickles to rub together.  Here I am getting close to 7 digits in investable assets and I still worry about money.  Not the same worries but now how best to invest it, how to preserve it, how to minimize taxes, how to draft my estate, and on and on.

I have learned that I will always be worried about money, due to my insecurities and my relationship with money.  So I am doing my best to not worry about not worrying about money, if that even makes sense.

[ysette9]

Monkey Uncle- you bring up good points about the small data set of bear markets in the data we have available. It is true that the data are limited when you start looking at 40- and 50-year retirements. I suspect we fall into th trap of getting too complacent thinking we can model and predict these things. Who knows what will happen to tax policy over that time? What about healthcare? How much will college cost in 15 years when my oldest starts racking up those bills? Who knows if I will even still be in this country? Will something else so life-changing happen between now and then that debating over 85% succès rate va 100% success rate seem silly in retrospect? Certainly my life hasn’t always gone according to the path I would have predicted had you talked to me ten years ago.

My goal is FIRE when reaching 85%+ success rate via cFIREsim. That is what I think I am comfortable with today. I may very well not have nearly that sang froid when I actually arrive at the number. The diving board doesn’t look as high from the side of the pool as it does when you are up there and preparing to jump.

[Lan Mandragoran]

In theory it is all baked in, but I personally think it would be emotionally tough to look through a big equity/economic downturn just after you retire if you are a >90% equity person (I am not). Depends on so many things it is hard to generalise. However, personally I don't think it would be prudent to FIRE now on 100% equities, a bare bones stash level, and assume historic levels returns unless you are comfortable cutting expenditure if the market tanks and/or can go back to work. It is a factual statement that markets are at historically high P/E multiples and you don't need to believe a crash is coming to conclude that being a little more conservative probably makes sense. 

While the models may say that your failure rate is, say, 5%, that doesn't mean it wasn't a stressful ride for the 5-25 percentiles who made it, but it got a little hairy. I suppose that supports an X+Z approach.

Speaking personally my targets are super conservative as I don't want any risk of having to go back to work, know that I cannot return to anywhere near my current earnings 5 years from now (or return at all), and don't want to need to do side gigs / low paid work. I am also a worrier, and don't want one of those worries to be money. Further, I am relatively young at 41 so hopefully looking at a pretty long runway ahead.

As such, I am OMYing to give me a big buffer on a stash that is probably large enough already. I don't think the 50 year old me will look back angrily at the 8 rather than 9 years he has been retired. No saying it was easy to 'sign up' for another year but when I made the decision it felt right for me. Note that I wrote a letter to the March 2019 me to tell him not to do another though!

Or you could just be willing to pick up 10 hours a week in the instance of something like a 2008 crash or something. That's all it takes, just a few dollars.  It's incredibly easy to make enough money to survive on as a mustachian. The hard part is making it to the 25x of what you need in a given year.

http://www.mrmoneymustache.com/2012/05/14/first-retire-then-get-rich/

[NorthernBlitz]

Or you could just be willing to pick up 10 hours a week in the instance of something like a 2008 crash or something. That's all it takes, just a few dollars.  It's incredibly easy to make enough money to survive on as a mustachian. The hard part is making it to the 25x of what you need in a given year.

http://www.mrmoneymustache.com/2012/05/14/first-retire-then-get-rich/

I'm pretty skeptical of the available of jobs for people with no recent work experience in a time like 2008 when unemployment is high and getting higher.

Competition for those 10 hour / week jobs will be pretty fierce.

I think it would be better to try picking up jobs like that in good times during retirement (not bad times).

But, if I'm making enough during the accumulation phase to retire in a short amount of time I think that the best hedge is to just work an extra year or two to get from 25x to 30x expenses. But, I like my job so others may feel differently.

[dogboyslim]

Lets say I need $100,000 a year (for easy math.  Its also close to what my wife and I are targeting).  The 4% rule says we should have $2.5M as our target.  I treat that as not that my net worth is 2.5, but that my invested dollars that are returning cash flow is at least that.  Then I look at the market cycle.  A really bad year in the market is a 30% downturn, so I just increase my target to the amount that allows for a 30% downturn and still lets me hit my target.  In this case, $3.57M.  From a withdrawal rate perspective, this makes the withdrawal rate 2.8%  Is it worth the time needed to keep working to earn this additional million dollars?  Its about 5 years extra for me.  I'm okay with this given my conservative nature and the fact that I like my job.  It probably is too conservative for most of you, but we all have our risk tolerance.

[Eric]

Lets say I need $100,000 a year (for easy math.  Its also close to what my wife and I are targeting).  The 4% rule says we should have $2.5M as our target.  I treat that as not that my net worth is 2.5, but that my invested dollars that are returning cash flow is at least that.  Then I look at the market cycle.  A really bad year in the market is a 30% downturn, so I just increase my target to the amount that allows for a 30% downturn and still lets me hit my target.  In this case, $3.57M.  From a withdrawal rate perspective, this makes the withdrawal rate 2.8%  Is it worth the time needed to keep working to earn this additional million dollars?  Its about 5 years extra for me.  I'm okay with this given my conservative nature and the fact that I like my job.  It probably is too conservative for most of you, but we all have our risk tolerance.

Why not add bonds instead?  Kind of seems silly to shoot for 30% extra in case of stock market crash *and* have everything in stocks.

[dogboyslim]

I guess I wasn't clear.  I am allocated between INTL stocks, stocks and bonds.  In 2008, a portfolio like mine would have dropped about 30%.  I did not intend to imply that all equity investments was my plan, I was only addressing the question of how I alter my target number to account for market cycles.

[ysette9]

How would your scenario have fared in 2008 with $2.5M if you run it through cFIREsim?