20 Responses to Safe withdrawal rates for Australian retirees

  1. Paul June 15, 2017 at 8:42 PM #

    Are we complicating what can be; and is currently for me, a simple strategy. Investing close to 100% in Australian shares with a foundation of bigger stable companies (Banks, Wesfarmers, Woolworths etc), pyramiding up with mid and small caps – all with a focus on growing dividends as well as capital growth (Nick Scali, Bapcor, Adelaide Brighton Cement, Think Childcare, ASX etc). A small portion is invested in small pure growth companies (Next DC, AMA group etc).

    I have a cash contingency amount outside of super in case of GFC 2; purely to supplement any possible cut in dividends.

    In a SMSF, the average 5% dividend yield produces $50,000 PLUS $21,000 franking credit refund (in Pension mode) pa on a $1,000 000 cost base for the share purchases. $2,000 000 produces $100,000 in dividends PLUS $42,000 in franking credit refunds – for a total of $142,000 pa;without ever selling one share!

    As companies tend to increase their dividends over time, that 5% (on purchase price amount) can quickly grow. dividends were only cut for a year or two (in some cases) during the GFC and quickly recovered.

    A simple strategy that requires some stock picking guidance / expertise (plenty of good subscription based Newsletters & info sites etc available. I pay virtually no fees.

    Why aren’t we hearing about this as an obvious strategy??? Also, those pure growth companies can be sold off without ever affecting dividends and in fact just add more cash into the equation …or the investor’s pocket!

  2. Anthony Serhan February 25, 2016 at 11:28 AM #

    Alun, in addition to Andrew’s comments and my earlier posts a few quick points. We did include an allowance for imputation credits in the Australian equity assumptions – Exhibit 10. Also, in Exhibit 13, if you look at the 70/30 portfolio and operate at the 50% Probability of Success (expected return), you get SWRs ranging from 4.3% to 6.0%, depending on the Retirement period. The 2.5% number you use comes from re-running the analysis using historical data and assuming a 99% probability of success. Take a look at Exhibit 13 for the SWRs generated using the forward looking assumptions. I look forward to getting on the road and chatting more about this face-to-face with people.

  3. Andrew Barnett February 24, 2016 at 10:45 PM #

    But Alun, you’re assuming 100% investment in Australian equities? And, the 2.5% is indexed to inflation. If you look at the historical record from 1900, there have been periods where a diversified fund would have product zero real returns for a decade. If you draw down 4% pa, plus another 1.5% for fees, you’ve withdrawn 55% from the account, and the possibility of pension exhaustion is high.

  4. Alun Stevens February 24, 2016 at 10:43 PM #

    Not sure what Anthony was thinking of when setting up the paper. Dividend yields are above 4% in Australia and have been very stable over a long period even with capital value volatility as described by Anthony. If dividend imputation is taken into account the yield is higher.

    Locking into 2.5% is just a method for entrenching a lower standard of living and ensuring a bigger inheritance for the kids.

    If I had drawn down my super at 4% over the last 10 years (i.e. including the GFC) my asset base would have increased. It would have increased even if I had drawn it down at 4% of the high watermark value of assets (i.e. maintained the drawdown even when asset values were smashed during the GFC).

    The real question is how much above 4% one can go and still maintain the money for life. With proper asset liability matching and cash flow management, a rate of 6% is more realistic.

    Lower minima would simply enhance the tax sheltered estate planning aspect of superannuation.

    • Aaron February 25, 2016 at 4:13 PM #

      I also get the result for Australian equities that the nominal value would have been maintained after 10 years- about a 22% reduction in real terms but I don’t see how capital has increased if you started at the peak in 2007. I find a reduction in capital of around 30% (44% in real terms), (even after including franking credits).
      Also, with the recent cuts announced, dividend levels are lower in real terms than what they were 10 years ago!

      There are flaws in the safe withdrawal approach in that it assumes no adjustment after the point of retirement so the conservative approach always generates a large balance for the estate.

      I assume your reference to proper asset liability matching is advocating for some form of pooled longevity insurance to cope with uncertainty of death. Retirees certainly don’t know when their cash flow needs will end in advance.

  5. David February 16, 2016 at 10:19 AM #

    In relation to your opening paragraph Anthony there is a wonderful quote that goes… “For every complex problem there is always a simple solution. And it is almost always wrong”.

    Personally I am quite confused and bemused about how minimum withdrawal rates for superannuation pensions has been interpreted as some sort of edict about the “right” amount of income in retirement.

    The minimum withdrawal amount does not have to be spent, there is no maximum withdrawal amount (other than in TTR mode), and most people will have other non super resources that can potentially be used to fund their living expenses. There is hardly any relationship between the minimum withdrawal amount and actual retirement living costs for most people.

    The minimum withdrawal amount just forces people to take some money out of a tax free environment to either spend, or accumulate in a potentially taxable environment. It is another example of checks and balances on the alleged “tax rorts” of the superannuation system. Like contribution caps in reverse.

  6. Anthony Serhan February 15, 2016 at 9:26 AM #

    Mark, let me expand my comment about equities (I agree, when it comes to investing in equities it is about the underlying businesses). Look at the portfolios in Exhibit 13 of the paper. At the 50% success rate (expected return) level you see the classic relationship between higher returning equities and the SWR – more equities produces a higher SWR. As soon as you start increasing the desired success rate, the payoff for adding more equities starts to diminish, and at the 90% success rate and above, the relationship starts to reverse. While the math behind this is complex the principles are quite intuitive. The important point is that we are just not working in the risk and return dimension, but have added a liability we are trying to match to – think objectives based investing. If you accept equities are riskier than cash and bonds, than the more certain you want to be about the outcome (higher success rate), the less equities will help. I am not advocating a particular point on the curve but rather, to understand the relationship.

    Paul, Peter, Greg thanks for the comments and observations. You are right, this sort of modelling starts becoming more useful when it operates at the individual level and can incorporate more real life circumstances. This is something we have invested in heavily to help our clients and it is exciting to see the range of tools now becoming available in the market.

  7. Greg Einfeld February 14, 2016 at 9:32 PM #

    It is a shame most retirees don’t understand this. Most of them say “I am earning returns of 7% p.a. therefore I can afford to spend 7% of my capital each year.” They are overlooking inflation, investment risk, and lower expected future returns.

  8. Peter Vann February 14, 2016 at 6:08 PM #

    Anthony, it is great to see Morningstar’s addition to the retirement outcome discussion in Australia using analysis that accounts for uncertainties such as investment volatility.

    Taking this one or two steps further, all members should be able to obtain proper stochastic forecasts of their safe withdrawal rates whether in accumulation or retirement phase. Such forecasts would obviate the need to debate simplistic rules of thumb, such as the 4% rule. They are necessary to enable members to see the potential impact of choices they make today on their safe withdrawal rates optionally including the age pension in their total retirement outcome.

    One of the impediments to superannuation funds providing individualised stochastic forecasts as part of each member’s annual report is that Monte Carlo simulation technology is generally too slow. But it is possible to do this using closed form mathematical techniques that allow each member report to be produced in a fraction of a second. Moreover, these techniques can drive very responsive “what if” functionality of a superannuation fund’s website.

    I look forward to further additions to the Australian retirement landscape from Morningstar supporting use of stochastic analysis.

    • samir September 21, 2016 at 12:53 PM #

      Dear Peter (Vann),
      I came across an old post of yours in morningstar (http://discuss.morningstar.com/NewSocialize/forums/t/104612.aspx). I am looking for ways to compare my money weighted portfolio return against some benchmark however I have no idea as to how to calculate money weighted return for an index. I have found your idea in that post immensely useful. Is there anyway you can provide more details so that I can go through it and try to understand how to do it myself (this is for my personal portfolio comparison). I appreciate your help very much in this regard. Thanks samir

  9. Paul Goodwin February 12, 2016 at 11:47 AM #

    Thanks for the research Anthony. Your report gives a less optimistic view than comparable Australian studies such as Drew & Walk (2014). I assume using forecast returns rather than historical returns, and including the impact of fees would account for these differences.
    Using an asset/ liability matching strategy (or bucket strategy) to protect against sequence risk should increase the safe withdrawal rate. Reducing spending in the later years (80yo +) would further increase safe withdrawal rates. A dynamic spending policy which adapts to market movements would also assist. In most cases a 2.5% withdrawal rate would result in very considerable wealth at death- and the associated missed opportunity of an improved lifestyle.
    The biggest factor potentially increasing safe withdrawal rates would be consideration of the Age Pension. However, the impact of the Age Pension requires fairly sophisticated retirement planning software and is subject to legislative change.
    Good luck to the average punter planning for retirement without some professional assistance!
    Alex- this isn’t necessarily an article about superannuation, it is about retirement planning in general and your dream of being financially independent even without work. A retiree can hold significant assets outside superannuation/allocated pensions and still fall under the tax free threshold. I encourage this to guard against legislative risk.

  10. Mark Hayden February 12, 2016 at 11:30 AM #

    I respectfully disagree with a number of points raised. Whilst appropriately referring to the inflationary increases and the need to include fees, this paper has a number of short-comings.

    As an example the comment “adding equities can help a portfolio, but only if you accept a lower probability of success” is short-sighted for two reasons. Firstly some of the invested capital is long-term in nature; eg some is not accessed for 20 years. Secondly, equities appear to be treated by Anthony and others as a commodity (eg as a bit of paper to be traded) rather than as an intangible asset in the form of a business. The Hayden Investment Model addresses these matters in considerable detail. The Model is currently being back-tested and it will then include a robust critique of the 4% rule.

  11. Anthony Serhan February 12, 2016 at 10:51 AM #

    Ashley, You are right 4.0% = 25 times desired income, 2.5% = 40 times. A big difference in what capital you require. If you take a look at Exhibit 13 in the original paper, you will the SWR approaches 6% if the time period is shorter and you lower the required success rate. 6.0% = 16.7 times, which is getting closer to the multiples you mentioned. One of the main points of the paper though is that rules of thumb built off past return expectations aren’t that useful looking forward. More importantly, lets not pretend we know what is going to happen over the next 30 years and talk about the range of possibilities. If you are “optimistic” and believe returns will be at least as good as what you expect and probably better, spend away, if not be a little cautious.

    Donald, the 2.5% figure was not an expected real return, but a first year withdrawal rate that would still provide an inflation indexed income stream over 30 years IF you experienced one of the worst return patterns possible in the 10,000 simulations run for the portfolio. As a side point, we know from the 70s and the first 10 years of this century that there have been periods where real returns ARE LESS than 2.5%. To quote Bengen’s paper “You have prepared them to survive the worst that has ever occurred, and should circumstances be better than that, they will prosper. After all, isn’t that what they hired you for? And isn’t that what you wish for them?” I am more optimistic than that, but at least I know and accept the trade-offs I am making.

  12. Michael February 11, 2016 at 10:36 PM #

    Does anyone remember Alex? Sincerely, Michael :))))))))))) PLANET EARTH

  13. Graham Hand February 11, 2016 at 8:25 PM #

    Hi Alex,

    Thanks for the feedback. We want to reach a broad church, not only old codgers like me. Super is important, but hopefully, this week’s edition on China, January results, RBA decisions and Asia have more to do with investing than retiring. But point taken, young fella.

    Cheers, Graham

  14. Alex February 11, 2016 at 8:24 PM #

    Hello, Am I one of your very rare readers under 40 ? I eagerly await your newsletters, and I am sorry to say but the tone this year seems to be shifting to more and more focus on superannuation. As an Australian expat I must be a rare species of Australian investor who isn’t obsessed with my super fund, but still very interested in getting financially secure and daring to dream, even independent (of work). Despite the results of your reader survey, don’t forget us! We are your next generation of readers…. 😉 Kind regards Alex, Rotterdam, NL.

  15. Donald Hellyer February 11, 2016 at 7:13 PM #

    If returns are only going to be 2.5% (real) perhaps we should stop superannuation contributions. The private sector wouldn’t accept such a low return. We would be better off to pay down debt, invest privately, take more risk (something superfunds find very difficult to do).

  16. Paul February 11, 2016 at 6:01 PM #

    Graham, re your comments on super changes in the newsletter … Spot on predictions.

  17. Comany February 11, 2016 at 5:41 PM #

    Introduce death taxes and this will sharpen retireees focus on spending their money whilst alive.

  18. Ashley February 11, 2016 at 5:22 PM #

    2.5% withdrawal rate (or even 3.9% at 80% confidence) will scare many people. That’s a multiple of 25 times the required living expense budget. Most retires are told multiples of 12 to 15 times, not 25.

    · Problem is that NOBODY has nothing but their super to rely on. EVERYBODY has other assets to rely on – combinations of house, investment properties, businesses, inheritances, gov pension, etc.

    · So, since something like 90% of Australians die with about the same level of total assets they retired with, they can afford to draw down more of their assets each year and still not worry about ‘longevity’ since it is not an issue.

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