Rulers, The following is from Dave Fisser, a retired pilot that sits on our Southwest Pilot's 401K committee. Dave wrote an article titled "Retirement Planning: Not Average Math" I copied some excerpts for you to consider. In particular, Dave Fisser took notice to some of the very things I had previously posted regarding Dave Ramsey's retirement advice. Again, I think Mr. Ramsey is excellent at personal finance. However, I believe he's doing a disservice to his followers regarding stock market expectations for retirement planning. I just think Mr. Ramsey and I need to meet so I can set him straight on some facts and introduce him to Rule #1 Investing! Here's some of Dave Fisser's article:
"AAII Journal quoted that a healthy 65-year-old had a 36.9 percent probability of reaching age 90 and a 17.6 percent probability of reaching age 95. But an Associated Press newspaper article quoted that for a healthy 65-year-old couple, chances are 63 percent that one would live until age 90 and there was a 36 percent chance of one of them living until age 95. In the Sunday Dallas Morning News business section, June 19, 2011, Dave Ramsey advised a reader, “Build a nest egg that you can live off about 8 percent of. If you have $500,000 stashed away, then that would mean about $40,000 a year.” He justified that by saying, “Throughout the history of the stock market, the Standard & Poor’s 500 has averaged between 11 percent and 12 percent.” He then stated, “But if inflation runs about 3 or 4 percent, and you’re making 11 to 12 percent, you can pull out 8 percent and still leave enough in there to give yourself an inflation raise every year and not touch your nest egg.” Unfortunately, Dave Ramsey doesn’t offer any research to support his advice.
Consider the historical periods of poor annualized compound performance for the S&P 500 and the corresponding inflation rates: 1929-1948 S&P 3.1 percent and inflation of 1.7 percent; 1966-1981 S&P 6.0 percent and inflation of 7.0 percent; and the most recent period from 06/30/1996 to 06/30/2011 (Morningstar data) S&P 6.42 percent and inflation of 2.44 percent. One can see that the 8 percent spread between returns and inflation doesn’t always happen for long periods of time. What Ramsey may also have stated was arithmetic average returns rather than geometric or compounded returns. When I add the calendar year performances from 1926 to 2008 and the divide by 83, I get close to 12 percent. The differences are huge. Take $100 and subtract $50 and then add $50, the arithmetic sum is $100. Then take the same $100, lose 50 percent and then gain 50 percent and you’re left with $75, a notable difference due to compound math!
Another dubious assumption is that a retiree would have 100 percent of a retirement portfolio in stocks. Just think of the stress because of the volatility in August and September of this year, let alone most of 2000-2002 and the last half of 2008. For a second opinion, I consulted a recent update to the original Trinity Study, which used actual stock and bond calendar year returns (not averages) from 1926 through 2009. It showed a 100 percent stock portfolio, assuming an initial 8 percent withdrawal rate, and withdrawals adjusted for inflation had a 44 percent chance of lasting 30 years. So using averages says that the 8 percent withdrawal may work, but reality says it doesn’t always and who wants to be a part of the 56 percent who’ll run out of money? The Trinity study also stated that a 50 percent stock and 50 percent bond portfolio with a 4 percent initial withdrawal, increased for inflation, had a 96 percent chance of surviving 30 years. I’ll opt for the more conservative odds, with less volatility.
There are many critics of the 4 percent withdrawal rule as well, one being its attempt to support non-volatile spending with volatile investing. In other words, if the markets do real well, you may die with a whole bunch of money you could have spent somewhere early on. But who knows when emergencies may arise that call for the use of “reserve” funds and who can predict market returns? I think the idea of “non-volatile spending” is a misnomer as well. Can anyone, with any certainty, quote future heath care costs? It would also be nice to avoid volatile investing, but guarantees come at their own price as well.
This whole discussion is just the beginning of things to think about. It’s not to disparage Dave Ramsey or any other advisor, but retirees need to understand the assumptions of any retirement plan, whether the assumptions are reasonable, and then do the math as part of your homework. Average numbers don’t represent the worst-case scenarios. Effort spent now will make the retirement flight that much more enjoyable and stress free."
--------------- To Your Wealth! Garrett Hey...Read this: I am not an adviser. I am not licensed. I am not offering advice because I have no idea what might be right for you and I'm not trained in any way to know what is right for you. Anything I post is for my own general education and is probably not appropriate for you.