Today we’re going to be talking about safe withdrawal rates. And you people said I’m not fun at parties.
Most people don’t spend much time on safe withdrawal rates. They go to work until they think they can retire. And then they hope like hell their nest egg lasts them long enough. This seems like a bad strategy, but most of the time it works. People are remarkable creatures sometimes.
Early retirees are obsessed with safe withdrawal rates. Some people might even mock them for this obsession, but I never would. After all, they were kind enough to not make fun of me that time I had a very visible booger in my nose for four years. Yeah, that happened. I prefer not to talk about it.
Many U.S.-based bloggers have done a ton of work on safe withdrawal rates, which I’ll sum up in about a sentence and a half. You can safely withdraw 4% of your portfolio each year and not run out of money, at least historically. If you’re looking for a bit more of a cushion, then only withdraw 3-3.5% of your assets each year.
So if you plan to spend $30,000 a year, then feel free to call it quits after amassing $1 million. If you’re feeling frisky, you could wrap it up after coming up with $750,000. Many of these folks do exactly that, successfully supplementing their income with part-time work or small online businesses.
These numbers have been proven to work for U.S. investors. But will they work for Canadians? Let’s find out
Safe withdrawal rates Canada
Oh, Canada. You crazy place. With all the poutine and socialized medicine and whatnot. Will you ever learn?
Are you talking to Canada like it’s your cat after it has been mischievous?
You bet your ass, Italics Man.
Personally, I both love and hate the Canadian stock market. On the one hand, we have a number of sectors that are pretty much guaranteed to provide great returns going forward, at least in my humble opinion. Our banks have been historically stellar investments. Our pipelines have also been fantastic places to park money. It’s also been pretty hard to lose investing in the telecoms.
The bad part of our stock market is the amount of oil and resource companies. These are mostly trash and can easily be avoided, freeing up your mental energy to analyze companies that don’t suck. Unfortunately, this means I’m not a fan of most Canadian market ETFs. I just won’t tolerate 20% of my portfolio in terrible sectors.
I’m convinced a portfolio stuffed with Canada’s best dividend payers will allow investors to spend the dividends without having to worry about the principal. Easy, peasy. But we’re not talking about that, so let’s take a closer look at investors who just buy the Canadian indexes and call it a day.
Sorry, you’re not hitting 4%
Unfortunately, there’s no Trinity Study for safe Canadian withdrawal rates. We’re going to get a little less scientific here.
A firm by the name of Resolve Asset Management specializes in putting investors into these types of portfolios. They caution against using one firm number for a safe withdrawal rate, since there are a number of factors that could matter. Say you retire when stocks are in a bubble. That would reduce equity returns going forward, which means your withdrawals would be limited.
Resolve Asset Management believes a safe withdrawal rate for Canadian investors is somewhere between 3.23% and 3.87%. Personally, I don’t think two decimal places is precise enough. Three or you’re not trying.
Wade Pfau, who writes over at Retirement Researcher, studied whether a 4% withdrawal rate would have worked around the world.
His findings were a little bleak. The 4% rule would have failed surprisingly often in many countries over the years, including Japan, Germany, and France. The good news is according to Pfau’s research, a safe withdrawal rate in Canada would be slightly higher than in the United States. The bad news is he’s not convinced a 4% safe withdrawal rate is safe.
Still, he found the safe withdrawal rate for a 50/50 stock/bond allocated portfolio in Canada would be 3.96%, slightly higher than the U.S., which has a 3.94% safe withdrawal rate. Japan’s safe withdrawal rate would be 0.2%. No, that’s not a typo. No wonder the Japanese are so weird.
Morningstar also tackled this problem back in 2017. They found that low fixed income returns would push down the likelihood of a 50/50 portfolio lasting much longer than 25 years being withdrawn at 4% annually. They figure investors who invest in 100% equities could survive even a 40 year withdrawal period, but introduce greater variance by going about it this way.
Let me summarize the various Canadian safe withdrawal rate studies out there.
Low interest rates have made the 4% withdrawal rule difficult, especially for those folks who want the added stability of bonds in their portfolios. Rates have crept up lately, which is good news. Five-year GICs now regularly pay out more than 3%.
If I was looking at retiring today — which would mean a 50 year retirement, give or take — I wouldn’t withdraw any more than 3% of my assets. I’d likely bump that down to 2.5%, just to be sure. Which means if I wanted to spend $35,000 a year, which is approximately what my wife and I spend annually, I’d want $1.4 million in the bank.
Maybe I’m overly cautious, but I wouldn’t feel comfortable basing my early retirement on the 4% rule. I’d have to have some sort of backup plan, like earning a little extra income or having a spouse who continues to work.