Set forth below is the text of a comment that I put to a blog entry at Wade Pfau’s site titled Trinity Study Updates:
we will not know if there is going to be an increased failure rate for another 20-30 years.
This statement is of course 100 percent true. However, I have a different and I think far more realistic and prudent and proper way of looking at things.
A safe withdrawal rate study is not supposed to tell us what withdrawal rate may work. It is supposed to tell us what withdrawal rate absolutely will work (presuming that stocks perform in the future as they always have in the past). A possibility that has only some small chance of coming to pass cannot properly be referred to as one that may “safely” be assumed. When aspiring retirees turn to research to learn the safe withdrawal rate, they are seeking to learn the withdrawal rate that will work in a worst-case scenario, not a best-case scenario or even a typical scenario.
In the past, valuations have always affected long-term returns. So the proper way to look at this question is to apply a valuation adjustment and see how well the 4 percent rule works then. The answer is — presuming that stocks perform in the future as they always have in the past, there is a 30 percent chance that a 4 percent withdrawal rate will work for retirements that began at the top of the bubble (January 2000).
Yes, there is a chance that the 4 percent rule will “work” for a third time. But those who are willing to speak frankly about these matters can say today that the odds are very much against it. The Old School safe withdrawal rate studies tell us not the safe withdrawal rate but the withdrawal rate that may or may not work depending on what sort of return sequence happens to pop up. Those are two very, very different concepts.
In the event that stocks perform in the future as they always have in the past, we are likely to see millions of failed retirements as a result of the analytical errors contained in the methodologies employed in the Old School studies. It is my strongly held view that everyone in this field should be doing all he or she can to urge the authors of the studies to make corrections and to warn the millions of retirees who have used these studies in their planning efforts of the dangers associated with using them.
William Bernstein, author of The Four Pillars of Stock Investing, once said that those considering making use of one of these studies to plan a real-world retirement would be well-advised to “FuhGedDaBouDit!” You gotta love a New Yawker’s way of getting to the heart of the matter in a whole big bunch fewer words than I put forward in this blog comment!