A comment came in yesterday about how long it might take to get back to even from this bear market. My hunch is that the market will retrace a big chunk of the decline from its bottom and then meander for a while and yes it could be a long time before the S&P 500 sees 1565 (not a prediction, more like something we should maybe brace for, and consider more foreign).So here is a thought that might whip a few people up; how long it takes to get back to even is the wrong thing to think about.
The value of your portfolio today is what it is. It has either outperformed or lagged the market during this bear phase but whatever the dollar amount that is it. The day you start to draw income from it (or if you are taking income now) the value will be whatever it is. For someone drawing income now, the value a few years ago means nothing.
A 55 year old who wants to start taking an income in ten years will need to base that income on what he has then. If he has $800,000 ten years from now then that is his reality. If three years before he draws money it was worth $650,000 or $950,000, he needs to base his withdrawal on $800,000 not some high water mark from the past.
I think this circles back to my whatever you got, 4% rule about how much to take out every year. If you had $1 million one year, took out $40,000 and the portfolio lost 10% you now have $860,000 (simplistic math). If you take out the same $40,000 the next year and also had a 5% loss you now have $777,000 (again, simplistic math). Now $40,000 is more than a 5% drawdown and the path to trouble is much easier to see.
Sticking to 4% (or more practically 1% of the value of your portfolio on the last day of the quarter) is problematic because it means the income generated can fluctuate in such way as to create a lot of uncertainty in the family budget. Obviously whatever you got, 4% is not perfect but it beats running out of money.
I think it makes more sense to stick with a strategy of saving and maintaining the proper asset allocation along with going on defense every now and then when market circumstances dictate. Right here right now is a little trickier. There is a balance to be struck between defense and not letting a massive rally that comes from nowhere that catches everyone by surprise happen without you. The blog posts of the last couple of months have covered how I am trying to strike that balance which is not easy. I would add that regardless of the fundamentals or whatever the bottom is or when it comes, after a greater than 40% decline a massive rally that comes from nowhere and catches everyone by surprise would be far from a black swan.
14 comments:
I do not think people are ready for a 23% reduction in the amount of money they have to live off of. I think you are going to have readers or clients buying some type of annuity.
Agree with anon 6:30.With the front edge of the boomers hitting their hoped for retirement time, I believe that if there is a rally (or maybe even if there isn't) a number of folks are going to be buying immediate annuities so they can have a "pension" like dad had with some of their funds and to heck with the kids and any inheritance. As long as they keep a fair amount in assets that can appreciate in rallies, index the annuity for inflation (pricey add-on but IMHO necessary) and maybe spread the risk among a few different companies ($100,000 in three companies to offset default risk) you will see many a financial advisor licking their chops over convincing their clients that this is the way to go.
For now, the darned things are too expensive. If you are freaking out and have a GIC investment in your 401(k), you may want to start allocating some $$ there and get the 4 or 5% return without market ups and downs that you get even with bond funds. Just don't give up on the stock market. If it goes to depression levels, the whole country is screwed anyway and like Roger siad yesterday, your friends and family will still love you, you just may have a different old age than you once thought.
Just a couple thoughts.
DE
You have disagreed with me before about only taking 3% from the assets during retirement, but It sure seems like people should not plan on a 4% number.
It seems like people should make sure they have a budget planned for a much smaller number than 4% and hope it does not become necessary. The wild fluctuations in retirement funding Rogers plan demands does not seem acceptable to most people I have met.
The demand for a predictable stream of income is largely a function of habit and the life a person leads: If that life is built upon debt, or some other large fixed expense such as assisted living or chronic health care exists, then a predictable income stream becomes essential.
Those who are not particularly disturbed by income fluctuations, are relatively free of debt and do not have large critical fixed expenses, have a few more options with the caveat of course that a large, fixed expense could be right over the horizon so failure to plan at all is never an option.
What it comes down to for many is that funds likely to be needed in less than five years should not be placed at risk -- a T-bill/note ladder in Treasury Direct and/or a CD ladder at an FDIC insured bank most likely -- because just about everything else either represents counter-party risk (e.g., insurance annuities, limited partnerships, etc), greater volatility or both.
The rest can be placed at some risk and this will of course vary with tolerance and money management model but there are reasons tolerance should not be too restrictive; e.g., if I am sixty years old and have some reason to suspect I could live another twenty years (or at least don't mind the possibility my heirs could get a nice surprise) then that means a segment of my portfolio can be directed to anticipated cash flows beyond a ten-year horizon and that means equities at current valuations* are acceptable in price vis-a-vis that segment which means the possibility they could fall further in price, while certainly not pleasant, is also not highly relevant.
*John Hussman does a much better job of explaining this than I can (and 'doing it' too no doubt) but in my version of the model at least the core segment of my strategic portfolio is most sensitive to normalized earnings (not trailing or forward) relative to current bond yields; e.g., single digit P/E's made sense in the 70's given how high interest rates were (stocks had to yield more to create demand), normalized single digit P/E's now not so much.
Great insight on managing portfolios thru the accumulation and distributionI phases.
One thing that I might add is that I think there is going to be some sort of Democrat Party pressure on the Federal Government to create a regulated annuity plan in place of the 401k type plans for funding retirement in the future.
Self directed plans have proven to be too complicated for most people. Also, employers and "finacial services" advisors have not exactly covered themselves with glory providng support.
Private annuities seem too expensive for all but the mathmatically challanged.
But, running out of money if you live too long is a concern for almost everybody.
Having the govt step in will also be looked on as a way of punishing Wall St. for their greed, and may garner wide support,
OG
The problem is over the last several months finding a proper or balanced allocation is not that easy when the bond market is down well into double digit losses. Cash alternative have been the only profit centers. Twenty-nine out of thirty Dow stocks are down year to date and 98% or whatever the number is in the S&P are down.
What is a proper allocation in this market for a Baby boomer?
BWJR
You keep making the mistake that all you ideas are based on an investment systems that is about to change (50% chance).
All that you learned about investing is based on a inflation growth fiat money model.
That system is about to change, how much we do not know but lots of guesses out there.
A new financial systems means all your economic statistical hogwash is now unfounded.
Great opportunity for new economics to create the new hogwas for the new century, who will it be?
Will Roubini be the next Keynes?
We aren't going to change from fiat money to gold, despite how much the goldbugs salivate over that prospect.
I 100% agree with Roger that you have what you have. My dad is one who always wants to hold on to a falling stock until it gets back to where he bought it at. Wrong choice, IMO. It's meaningless what you bought it at. It's only worth what it's at today.
One has to expect ups and downs in the market. Before I retired, all of my retirement planning assumed a 50% drop the year after I retired. Well, I was sort of wrong. The retirement plan dropped 50% a year before I retired. A divorce got 50% after I retired ;-)
As for people running to annuities, I think they will be shocked at how little they get in monthly payments for a half million dollar annuity. And there is always default risk with an annuity.
Roger,
I would be interested in your analysis of Roubini's most recent prognostications, as found on Yves Smith's Naked Capitalism blog.
Even discounting NR's prediction by 50% suggests something on the order of a 5% GDP decline (VERY serious recession, taking a long time to come away from, given the relative illiquidity/low velocity of the fundamental assets affected: housing).
While I'm with you on the idea of long term, i.e., some of these fundamental companies trading at single digit multiples (if they have little debt, a strong international footprint and a meaningful dividend) represent terrific buys, I think we are being hit with a true "perfect storm" of US economic dislocation.
Peak Oil (or some version of "bounded access to energy") does represent something of a ceiling to US (and global) rates of growth. And even ignoring individual debt to equity ratios, given the emerging market populations' room for meaningful percentage improvements in their ratios of "disposable income" to total income, I'd say that they (and not the EU/US) represent the future of global consumption.
But, our production costs (absent a serious decline in the USD - which currently is still over the horizon) effectively limit our export power into this demand. In other words, the emerging markets (China included) may trade amongst themselves.
I'm clearly not an economist, but I do fear for those who may, as you've presciently highlighted, get sucked in to a bear market rally's sentiment driven buying frenzy even as the fundamentals further crater, and we crash through the October lows.
The "anchoring" mistake of assuming that PE ratios of say, 2004 (mid liquidity flood) represent a "magnet" for prices could cause ever more "bottom picking".
In the end, if the fundamentals unfurl at all in the manner suggested by Roubini, a lot of folks will end up with some very smelly burnt fingers.
Why, if we really are at a "paradigm shifting inflection point" might it be so strange to consider any PE ratio over 9 a "screaming sell" (regardless, as you say, of where that PE has been in the past)?
R in NY
Yeah, annuities. Great idea, fellas. Let's just give all our money to, say, AIG, and they can dribble it back to us over 30 or 40years. No risk there.
That's an idea whose time has come, and gone.
j'adoube
Roger...when you say 'going on the defense every now and then' -what is your signal, how far did the market go down before you thought to go defensive.
Ken you are describing the idea of caring more about where they have been than where they are going, this hurts a lot of people.
RinNY, has Roubini been right about specific numbers? Not a knock because he has clearly nailed the big picture (he was a couple of years early) but I do not know if he has been right about specific numbers. Most of his commentary seems to be broader in nature.
If he says 10% then you have to address depression issues, 5% becomes a bad problem but a spike down to negative 5 would be less of a problem.
You make the argument for things to be much worse than what I expect, you've been more bearish than me for a while. You're being right would tell me that high cash, modest everything else and a tilt to countries in their own world would be one way to try to ride it out.
i am not a fan of annuities for the reasons you say expensive and no real guarantee. I heard form one friend a few weeks ago who was reasonably freaked becuase they have annuities with AIG (neither I nor my firm sold annuities to this person) and there was a short window of uncertainty about the fate of them.
the way I do things a breach of the 200 DMA by the S&P 500 is a triggerpoint to begin defensive action.
Roubini has been making his specific predictions lately in a rather odd way - w.r.t. S&P level he throws out a trough earnings then throws out a hypothetical P/E ratio - without any real discussion on why either may be grounded in anything.
likewise his new prediction of GDP is based on an assumed increase in savings rate to 7% - with no discussion of how that is anything more than a guess.
All his prediction could happen, but they still seem to amount to a gut type guess that the US populace is going to undergo a major philosophical and behavioral change based on the economic news.
I think is will come down to peak unemployment rates - for those who stay working, the let up prices has got to make them feel pretty good once the fear that they are next lets up.
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