The Popular 4% Retirement Withdrawal Rule Gets Upgraded to 4.7% - What It Means

The well-known “4% rule” which guides retirement spending just received a boost upward based on a new analysis. Financial advisor Bill Bengen, who first outlined the rule in a landmark 1994 study, has now revised it upwards to 4.7% due to current market conditions.

The original 4% rule stated that retirees could safely withdraw 4% of their retirement savings portfolio the first year of retirement, then adjust withdrawals for inflation in subsequent years without running out of money over a 30 year period.

Bengen’s new research combines two metrics – the CAPE ratio, which compares current stock prices to average earnings over the past decade, and historical inflation rates. Factoring in today’s high market valuations and elevated inflation, he concluded that retirees can now initially withdraw 4.7% of savings under worse-case scenarios without depleting their nest egg.

For a retiree with $1 million in retirement savings, this means $47,000 to spend the first year, rather than $40,000 under the old 4% rule. This extra cushion helps offset reduced purchasing power due to high inflation.

However, Bengen cautions that new retirees should also reduce stock holdings to 30% at current valuations to avoid sequence-of-returns risk, which is retiring right before a major bear market. This more conservative asset allocation prevents portfolio values from declining sharply due to volatility early in retirement.

While the 4.7% initial withdrawal rate provides helpful guidance, flexibility is still required in practice. Market returns may fluctuate, requiring downward adjustments to spending over time. Periodic reassessments of sustainable withdrawal rates based on actual portfolio performance are key.

 Though not perfect, the updated rule gives retirees a reasonable starting point to determine the income their savings can support. It’s a valuable benchmark, provided retirees monitor conditions annually and make adjustments accordingly. The 4.7% rule aims to balance generating sufficient lifetime income while preserving capital over the long term.

 Looking at an example shows the impact in dollar terms: For a $1 million portfolio, the old 4% rule allowed $40,000 of spending the first year. The new 4.7% rule means the retiree could safely spend $47,000 initially. While not a massive difference, the extra few thousand dollars provides helpful breathing room amidst inflation.

 In practice, conservative retirees may still opt to begin withdrawals around 4% even with the higher rate. But knowing they have more cushion from the updated rule can give peace of mind. The key takeaway – regularly review your spending strategy and adjust as needed.