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It Is Critical to Distinguish Returns-Sequence Risk from Valuations Risk When Calculating Safe Withdrawal Rates

Valuation-Informed Indexing #258

Michael Kitces has written an important and helpful and yet also highly frustrating and perhaps dangerous article on safe withdrawal rates. It is titled How Has the 4 Percent Rule Held Up Since the Tech Bubble and the 2008 Financial Crisis?

The article focuses on an aspect of the safe-withdrawal-rate matter than many people seem to miss. The safe withdrawal rate as it is defined in the literature is a very conservative number. Many investors (and even some of the experts advising them) seem to think of the safe withdrawal rate as the recommended withdrawal rate. It is not that. The safe withdrawal rate is the withdrawal rate that is virtually certain to work in a worst-case scenario. Investors who want to be super safe might well decide to use the safe withdrawal rate as their own withdrawal rate. But many others might reasonably conclude that they can afford to assume that a worst-case scenario will not pop up for them.

When I developed The Retirement Risk Evaluator (the first SWR calculator that adjusts for the valuation level that applies on the day the retirement begins), I had it identify not only the safe withdrawal rate (the rate that would work in 95 percent of the possible return scenarios) but also the reasonably safe withdrawal rate (the rate that would work in 80 percent of the possible return scenarios). You pay a price for wanting to be super safe. Kitces is doing us a service by showing that the 4 percent rule is in a general...