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How “safe” is a 4 per cent withdrawal rate?

David Rowley




The notion of a 4 per cent withdrawal rate on investments being “safe”, as identified by US financial adviser William Bengen in 1994, has been debunked by research from Morningstar.

Its findings show that safe withdrawal rates, which it defines as having a 70 per cent to 99 per cent chance of being sustainable over 30 years of retirement, are predominantly under 4 per cent per annum for a range of investment portfolios.

The shortfall has been caused by a combination of lower projected rates of return on Australian equities and bonds compared with historical rates, while the calculations up to 30–40 years of retirement also acknowledge growing levels of longevity, according to Anthony Serhan, managing director of research strategy, Asia Pacific at Morningstar.

The research shows that a withdrawal rate of 4 per cent per annum from an account invested 50 per cent in equities and 50 per cent in bonds would have a 99 per cent chance of being sustained for 20 years, a 78 per cent chance of lasting 30 years and a 46 per cent chance of surviving for 40 years.

Furthermore, for a 99 per cent chance of a fund surviving for 40 years a retiree should only withdraw 2.2 per cent a year or 2.8 per cent over a 30-year period.

Serhan said the research would help retirees understand the trade-offs between risk and withdrawal rates.

A commentary on the value of the research was provided by Jack McCartney, executive manager, advice and employer relationships at UniSuper.

He pointed out that while such research served as an indication for average sized portfolios, it would remain common for those with low levels of retirement savings to take a withdrawal larger than 4 per cent, while those with much larger savings would take less than 4 per cent.

The Morningstar research also looked at how different portfolios would fare over 30 years.

A portfolio made up of 15 per cent in equities and 85 per cent in bonds would have a 70 per cent chance of lasting 30 years at a withdrawal rate of 3.7 per cent, but if it were invested in 85 per cent equities and 15 per cent bonds it could have a withdrawal rate of 4.5 per cent with the same 70 per cent chance of success.

One anomaly pointed out by Morningstar was that the 4 per cent safe withdrawal rate does not apply equally to retirees across the world.

Between 1900 and 2014, a 50/50 equity and bond mix would have returned 4.81 per cent on average across 20 developed countries, but it would have returned 5.73 per cent in Australia – the third highest among 20 developed countries, with the fourth lowest risk.

Serhan said such high returns had helped maintain faith in the 4 per cent withdrawal as safe, but he saw projected equity returns for Australians as 2 per cent lower than returns between 1900 and 2014.
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