ES wrote: If you or anyone else here says "No, that's not true", or "History doesn't bear that out", or "If X is so, then Y must also be so" when Y is obviously false" there is not one person here that will accuse you of doing anything but arguing your point.
ES, I'm going to hold you to this.
The rest of this post deals with jwr's accumulated posts in this thread since I buggered off to look at a sailboat. Other comments may be addressed in a subsequent message.
JWR1945 wrote: These rates are high because they include 2.50% (plus inflation) from principal.
For purposes of this discussion, I will assume that we can get an interest rate of 1.5% with 10-year TIPS. This corresponds to a 40-year withdrawal rate of 3.34% (plus inflation).
Next, we set a target allocation for the TIPS ladder. For purposes of illustration, I will set this allocation equal to 20%.
Under normal circumstances, the TIPS portion of the portfolio would contribute 20%*(the normal withdrawal rate for the TIPS) = 0.20*(3.34%) = 0.668% of the 4.0% that we are seeking.
It has already been pointed out by others that this presumes no change in the yield curve, favourable tax treatment, and no lies re CPI-U. Now note that, of the 0.668% contribution from TIPS, 0.500% on average is from consumption of principal. I'll refer back to this later. Don't forget it.
We conclude that withdrawing 4% (plus inflation) is doable just so long as we can avoid being hurt by an unfavorable speculative return.
About the Speculative Return
It is highly likely that the stock market's multiples will contract over the next decade. They are likely to contract by a factor between 2 and 4.
IOW, compounded annual p/e declines in the range 6.7-8.7% are likely over the next ten years. Adding in <2% dividend yields and <2% growth rates, any investment in this asset class is a sure loser. Yet further on in the thread, Ben Graham's dictum that at least 25% of a portfolio should be in stocks at all times is repeatedly invoked. This is called having your cake and eating it too.
This is the beauty of the TIPS Ladder.
When prices fall, you use the principal of the TIPS that mature in that year in your withdrawal. Since your TIPS allocation is 20% and since your ladder is 10 years long, you receive 2% (plus inflation) of your desired 4% (plus inflation) withdrawal amount. That is, one-half of your withdrawal amount will come from cashing in TIPS as they mature at par. The rest comes from stock dividends.
Refer back to what I asked you to remember above. The TIPS withdrawal schedule in the absence of a stock market decline includes a 0.5% per year consumption of portfolio principal. So, when stock prices fall, consuming the entire maturing principal of TIPS as an adjunct to dividends doesn't get you an extra 2% to spend. There is double counting here and you really net only 1.5% from eating the maturing bonds.
That means the dividend yield from the equity part of the portfolio has to be 0.5% higher than JWR indicated. Instead of 2.2-2.7% to start, it has to be 2.7-3.2% to start. It's still "doable", but it's looking less likely.
What's worse is that the problem compounds itself. The original amortization schedule presumed that the TIPS ladder would last 40 years, depleting slowly over that time. Now a tenth of the principal devoted to TIPS is consumed in the first year, cutting interest income from the ladder in subsequent years, which makes a rising return (or at the least, dividend stream) from the portfolio's equities absolutely crucial. Dividend payments must rise much faster than inflation to make up for eating the TIPS principal.
Computers don't allow me to get away with hand waving and doing things that are fuzzy.
No, that's not true. History does not bear that out. Computers are a source of as much obfuscation as enlightenment.
One is that it can be tax efficient since the nominal principal is left untaxed.
True but misleading. The nominal principal is untaxed but a significant portion of the amount you realize at sale or maturity is the inflation accrued during your ownership. That accrual is taxed. For a ten year bond, which is what ten year ladders are built from, and even with only mild inflation, expect 1/3 of the principal at maturity to be fully taxable income.
Another is that the ladder always returns par plus inflation at maturity.
That's true only pre-tax. After tax in the US, there is no such guarantee.
Based on Historical Surviving Withdrawal Rates alone, we should allocate nothing to stocks at today's valuations.
No, that's not true. History does not bear that out.
your best tactic is to dump stocks early
History does not bear that out. There is a mountain of evidence that timing markets successfully is a very low probability bet.
From our investigations, rebalancing adds nothing except in times of high valuations. And even then, it adds very little. The big payoff is from sitting on the sidelines, waiting for conditions to improve.
History does not bear that out. High valuations existed throughout much of the 1982-2000 bull market. Sitting on the sidelines was a grievous error.
I recommend that you time your sales with the hope of getting at least the average price per share during the year. IMHO, you should be able to do just a little bit better. It is reasonable to shoot for a price in the upper third between a stock's (or index fund's) 52-week low and the 52-week high.
History does not bear that out. Note that no methodology for such timing is given.
But even a TIPS-only account does much better for retirees than most people imagine. You would have 80% of your money available (plus adjustments that match inflation) after a decade of withdrawing 4%.
No, that's not true. If TIPS had real yields of 2.2%, it might be true, but yields at all maturities are now below that.
A few hours later ...
Let us say that you withdraw 4.0% of your original balance (plus inflation) every year. You would still have 74% of your initial balance (plus inflation) at the end of a decade.
The arithmetic is quietly corrected. 74 < 80.
Even with today's horrible interest rates on ten-year TIPS, you can start out withdrawing 4% from an all-TIPS portfolio. Assuming that stock market prices collapse within the next decade, which is likely, you would be in a great position to convert to a dividend-based strategy that would extend your portfolio's survival far into the future. You would never have to sell any shares
The assumption of a stock market collapse to bargain levels in the next decade is by no means a sure thing. Describing it even as likely is a stretch. Even if it happens, converting then to a high dividend strategy cannot assure portfolio survival.
One of the problems is the historical evidence that any high equity strategy has really high volatility, so what happens after this conversion remains problematic.
The more serious problem is the situation at
conversion. Suppose you own a 100% TIPS portfolio. You are waiting for stock prices to fall, so that conversion is more attractive. When stock prices fall, their long run expected returns rise
. But all investments compete in the marketplace. If expected returns on one asset class rise, expected returns on other asset classes rise too. The process is noisy and hardly perfect from day to day, but it happens.
Now suppose JWR's slump finally comes. Stocks look like bargains, with expected real returns of 10%, say. What are you planning to buy these stocks with? Your portfolio is all TIPS, so you have to pay for the stocks by selling TIPS. You are not the only person in this boat. Lots of people will be selling TIPS. The expected return on TIPS is going to be really fat, because TIPS have to compete for attention with an asset class with an expected return of 10%. TIPS yields must rise.
TIPS are bonds. When yields rise, their prices fall. So, just as stocks get to bargain territory - dividend yields of 6%, expected returns of 10% - you have to sell TIPS at 4% real yields which you bought at 1.5% real yields in order to make this conversion. You could take a 25%+ capital hit on those TIPS.
To sum up, you've waited ten years, spent 26% of the real value of the portfolio, and a quarter of the remainder has disappeared because TIPS yields had to rise to compete with ever better looking stocks. What you are left with could be 50-60% of original real principal. A 4% (of original balance) SWR now becomes a 7-8% SWR on this smaller capital base and the historical evidence is that, no matter how big a bargain the stock market is, 7-8% SWRs are quite likely to fail.