"Kee" Points with Jim Kee, Ph.D.

  • Quick Take
  • The 4% Rule

Quick Take

US stocks are on track for one of the biggest early year advances (first two months) in three decades, according to the Wall Street Journal. Volatility has declined, and the Journal cited analysts suggesting the current surge reflects investors’ confidence that “there is nothing scary on the horizon.” I wouldn’t say that. I think it merely reflects the decent chance that last year’s major headwinds, namely China trade friction and an aggressive Federal Reserve, could turn to tailwinds in 2019. But while President Trump recently said that he would delay the tariff increase on Chinese goods that were slated to take effect at the end of this week, and Fed Chair Jerome Powell has certainly dialed down expectations for future rate hikes, these shouldn’t be taken as givens. There are other concerns in the world as well, like Brexit negotiations and on-going political strife in many countries. Here’s how I see it: There are always concerns and strife, so that’s normal. But the major headline events, like Trump and China and the EU and Brexit, are getting long in the tooth. Markets might get used to them, but business investment spending will ultimately flag and sit on the fence. And markets will adjust to reflect that. If these issues continue through the year with no real progress, I expect slower growth globally and in the US. That doesn’t mean markets will crash, but they sure won’t keep going up. If, on the other hand, these issues move along a path toward resolution, then the current pause in global growth could give way to expansion and a continued bull market. It would be nice to have a perfect crystal ball here, but it is much wiser, I think, to realize that one doesn’t exist. That’s why we diversify, and it is why we monitor each individual investment down to the business unit level on an on-going basis.

The 4% Rule

Very few professional publications that are issued on a weekly basis manage to say something interesting week-in and week-out. Somehow, InvestmentNews manages to pull it off. Written for professional financial advisors, InvestmentNews usually focuses on things like pending legislation that might affect advisors and their clients. Last week’s edition had an interesting article on “Better Understanding the 4% rule” that I thought Kee Pointsreaders would enjoy. In case you didn’t already know this, the “4% rule” is a rule of thumb that advisors suggest to clients regarding how much of their account to draw down and spend every year without having to worry about outliving their money. It was based upon research by an engineer, William Bengen, from MIT. Published in the Journal of Financial Planning in 1994, Bengen looked at historical performance data of a balanced portfolio of stocks and bonds (50%-70% stocks). He wanted to know how much retirees could take out of their initial assets, with annual increases for inflation, without running out of money in their lifetimes, or for 35 years (from retirement age at 65 to 100 years old). The worst case scenario of an investor's money going to zero in 35 years was a 4% initial withdrawal rate, which is where the rule comes from. Subsequent work suggested that Bengen’s 1992 rule was obsolete and should be replaced by a 3% rule (WSJ). The InvestmentNews writer decided to update Bengen’s study by using data from 1929 to 2017. He essentially found that 70% of the time the retirement funds lasted more than 50 years, and 30% of the time the money ran out, with the worst-case scenario being 29 years. His suggestion was to use a range for clients, with a high-end danger zone of 6% and a low-end safety zone of 2%. In my opinion, that makes 3%-4% a good range or “rule” to use by most people, at least as a starting point to help their thinking.