Hello Ladies & Gents,
We have already a thread about the applicability of 4% rule in Switzerland. However, I’m opening a new thread as I discovered more general problem with the rule itself.
Although it’s recommended by 99% of financial advisors and FI rockstars (e.g. MMM, JLCollins), I started doing some research on that rule (William Bengen’s papers, Trinity Study, etc) and I came across a reddit thread that mentioned a critique of that rule by William F. Sharpe (an economic Nobel prize winner who figured out CAPM and Sharpe ratio):
- http://retirementincomescenarios.blogspot.ch/2013/12/the-x-rule.html
- http://web.stanford.edu/~wfsharpe//retecon/4percent.pdf
In the blog posts he mentions a paper proposing alternative solution to 4% rule. I don’t have access to it, but here you can read the abstract:
“The floor-leverage rule is a spending and investment strategy designed for retirees who can tolerate investment risk but insist on sustainable spending. The rule calls for purchasing a spending guarantee with 85% of wealth and investing the remaining 15% in equities with 3× leverage. Surprisingly, this leverage is a tool for managing risk. The authors compare the rule with some popular strategies, illustrate it for a variety of retiree preferences, and evaluate its historical performance.”
I don’t understand much of that critique and I guess I need a free weekend to analyse it more carefully. I’m curious about your opinions about the rule.
It seems like common sense that 4% cannot be fixed rule - if during the year of the crash my $1M portfolio becomes a $0.5M, my 4% rule generates $20k, instead of $40k, and that might be not enough for living. And even if it were enough for a living - spending such huge chunk of your portfolio during recession years seems to be a solution far from optimal.