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Christine Benz

Retirement Planning > Spending in Retirement > Income Planning

What ‘Safe Withdrawal’ Rates Really Mean (and Don't Mean): Christine Benz

By John Manganaro

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What You Need to Know

  • Estimates of how much retirees can safely spend per year are useful but easy to misinterpret, researchers say.
  • Even though safe starting withdrawal percentages might be higher for retirees this year, that might not actually translate into a higher hard-dollar payout.
  • To maximize the amount of overall wealth, a retiree has to be willing to put up with some changes in their income from year to year.

In a new video analysis posted last week to Morningstar’s website, Christine Benz, director of personal finance and retirement planning, reviews the key findings of her much-discussed (and much-debated) December 2022 research report on safe retirement withdrawal rates.

The paper, called the “Retirement Withdrawal Strategies Report,” generated significant buzz among retirement advisor professionals for its conclusion that a safe initial withdrawal rate as of the end of 2022 was just 3.8% — a figure falling below the seemingly ubiquitous 4% withdrawal rule so commonly cited by industry practitioners.

While the topline number burned up much of the oxygen in the room, Benz’s paper also emphasized that the “right” withdrawal rate for any given individual depends on various factors, from their portfolio’s asset allocation and the market’s anticipated behavior to their projected time horizon and consumption preferences.

In her new video update, Benz directly addresses the debate about the utility of “safe” withdrawal figures and whether her 2022 report, which was penned with Morningstar’s Jeffrey Ptak and John Rekenthaler, offers an artificially high or low figure.

According Benz, many people retiring today can indeed reasonably take a higher initial withdrawal percentage than 3.8%, but there is still good reason to be cautious about overspending early in retirement.

Monte Carlo Considerations

As Benz explains the workflow that underpins the 2022 paper, she and her fellow researchers used what are called Monte Carlo simulations to figure out what someone could safely take out of their portfolio.

The “safe withdrawal” figure, she explains, represents what percentage a person could withdrawal in year one of their retirement using a balanced portfolio while maintaining a 90% success rate — that is, a 90% chance of not running out of funds over that 30-year horizon.

“We assumed a fixed real withdrawal system for those retirement withdrawals,” Benz adds. “So, we’re assuming that someone is taking X percentage in year one of retirement, and then inflation-adjusting that dollar amount thereafter.”

Benz and company used additional inputs received from colleagues across Morningstar Investment Management for expected stock returns, expected bond returns and expected inflation over that 30-year horizon.

“What we actually saw is a little bump up in safe withdrawal rates in 2022 versus what they were in 2021,” Benz point out, noting that 2021’s number was a “kind of a worrisome 3.3%.”

“Thanks to increasing bond yields as well as lower equity valuations, we came out with a 3.8% number in 2022,” Benz explains. “That’s because the team in Morningstar Investment Management expects that stock returns will be higher over the next 30 years and bond returns will also be higher.”

Inflation Forecast

According to Benz, inflation projections play a big part in this analysis, but not necessarily in the way one would expect.

“Inflation is top of mind for all of us today, but the fact is, we’re planning for a 30-year time horizon,” Benz says.

While core inflation today is in the realm of 6%, Morningstar’s long-term estimate stands at 2.8% as of late 2022.

“So, over that 30-year horizon, the expectation is that inflation will be elevated a little bit for the next couple of years but then will level off to a more normal level going forward,” Benz says. “When we ran this study in 2021, the forecast that we were using was 2.2%. So, it’s a little bit elevated, but not a lot elevated. It’s nowhere near the 7% inflation level that we’ve had over the past year in the U.S.”

Clarifying the Results

In reflecting on the quantitative conclusions drawn by the paper, Benz says it is important to note that a higher safe withdrawal percentage is an easy figure to misinterpret. For example, even though safe starting withdrawal percentages might be higher for retirees this year, that might not actually translate into a higher payout for most retirees.

“This is such an important point,” Benz says. “In reality, people care about their dollar withdrawals. They don’t care about the percentage. So, a higher percentage, say, 3.8%, on a shriveled-up portfolio may very likely translate into a lower overall payout.”

As Benz emphasizes, what matters at the end of the day is how much a given retiree is able to spend in dollars and cents.

“And the fact is many retirees, and many of us who are still working, have seen significant declines in our balances over the past year because stocks have declined and bonds have declined simultaneously,” Benz says.

With such factors in mind, Benz says she wishes the latter parts of the analysis that focus on the possible role of flexible withdrawal strategies (as opposed to fixed-percentage strategies) will get more attention moving forward.

“When we look at all of the retirement research that’s been done over the past couple of decades by people like Wade Pfau or our former colleague David Blanchett, our research points to the value of being flexible in terms of your withdrawals,” Benz says.

For its part, the new paper tests five different dynamic withdrawal strategies, concluding that each strategy brings its own benefits and drawbacks.

“I think they key finding here is that starting safe withdrawal rates tend to increase and lifetime safe withdrawal rates also increase when you add some flexibility to the approach,” Benz says. “My hope is that people will explore some of these dynamic strategies, because I think they can be really powerful. They can translate into higher spending and higher quality of life.”

The trade-off, though, is more variability, which some retirees may strongly want to avoid, given their personal preferences.

“To maximize the amount of wealth, you have to be willing to put up with some changes in your paycheck from year to year,” Benz says. “They can be modest changes, but they’re changes all the same.”

A Note About Time Horizons

Benz encourages financial professionals to review the parts of the analysis that speak to the impact of time horizons on safe withdrawal rates. While the findings that shorter time horizons tend to increase the safe withdrawal rate might be intuitive, the size of the effect might not be.

“Consider someone who has been retired for some time, and for whatever reason, they think that they will just have a 20-year time horizon for their portfolio,” Benz says. “When we look at this 20-year time horizon, we can see that with a balanced portfolio and a 90% success rate, you can actually take over 5% today. If you have a 15-year time horizon, you could take over 6%.”

Benz says these results show “initial safe withdrawal” analyses of this type are, in this sense, not just useful for new retirees.

“It can be a check-in for people who are further on in their retirement,” she says. “It’s not just for retirement newbies.”

(Image: Adobe Stock)

John Manganaro

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