Monday, October 23, 2023

What Experts Get Wrong About the 4% Rule

The origin of the so-called 4% rule is WIlliam Bengen’s 1994 journal paper Determining Withdrawal Rates Using Historical Data.  Experts often criticize this paper saying it doesn’t make sense to keep your retirement withdrawals the same in the face of a portfolio that is either running out of money or is growing wildly.  However, Bengen never said that retirees shouldn’t adjust their withdrawals.  In fact, Bengen discussed the conditions under which it made sense to increase or decrease withdrawals.

Bengen imagined a retiree who withdrew some percentage of their portfolio in the first year of retirement, and adjusted this dollar amount by inflation for withdrawals in future years (ignoring the growth or decline of the portfolio).  He used this approach to find a safe starting percentage for the first year’s withdrawal, but he made it clear that real retirees should adjust their withdrawal amounts in some circumstances.

In his thought experiment, Bengen had 51 retirees, one retiring each year from 1926 to 1976.  He chose a percentage withdrawal for the first year, and calculated how long each retiree’s money lasted based on some fixed asset allocation in U.S. stocks and bonds.  If none of the 51 retirees ran out of money for the desired length of retirement, he called the starting withdrawal percentage safe.

For the specific case of 30-year retirements and stock allocations between 50% and 75%, he found that a starting withdrawal rate of 4% was safe.  This is where we got the “4% rule.”  It’s true that this rule came from a scenario where retirees make no spending adjustments in the face of depleted portfolios or wildly-growing portfolios.  So, he advocated choosing a starting withdrawal percentage where the retiree is unlikely to have to cut withdrawals, but he was clear that retirees should reduce withdrawals in the face of poor investment outcomes.

We can see Benegen’s thinking in two quotes from his paper.  When a portfolio is depleting too fast, a retiree has the “option to improve the situation for the long term, and that is to reduce—even if temporarily—his level of withdrawals.”  When a portfolio’s growth exceeds expectations, “Some increase in withdrawals are probably inevitable.”

So, when experts think they are criticizing Bengen when they say the 4% rule is too inflexible, they are mischaracterizing his paper.  I’m not aware of any serious advocate for blindly following a fixed spending plan in retirement that ignores portfolio growth or decline.

Bengen’s paper has its faults, though.  Here are several articles I’ve written about the 4% rule:

Adjusting the 4% Rule for Portfolio Fees

Revisiting the 4% Rule

A Quiz on the 4% Rule

4% Rule Based on Longevity Statistics


  1. Been a while since I posted, hope you are well.
    Wouldn't all these fears be alleviated simply by having a dividend stock portfolio that you target with an average 4.5% distribution rate? Then if your share or unit price drops 30% and maybe some dividends are temporarily cut, (during the covid meltdown only 2 of my apx. 30 positions cut their dividend) in a bear market there is no problem because you continue to get the income you need while the market recovers?

  2. Hi Paul,

    Buying dividend stocks wouldn't alleviate my fears, because there would still be risk. The risk in any retirement strategy is a very bad investment outcome. Bengen points to 1929-31, 1937-41, and 1973-74. By comparison, the covid "meltdown" is a tiny blip. If there is a significant crash, a portfolio of only 30 positions may perform significantly better or worse than the market averages. This adds more risk.

    1. Sure agreed about the "30 stocks" point, i also was not clear on what "stocks" i have in the 30, as I generalized. My portfolio contains bigger positions in ETF's such as XEI , ZUT, ZRE, plus more, US and global components. So there is diversification reducing risk. All of them produce that 4% + range of steady income and even rising distributions over time since inception of the etf's. Then you can have a smaller cash wedge and the peace of mind of not selling units or shares in a deep and long recession at low's for me personally that feels more comfortable. For me total return is unimportant as long as i am satisfied with my monthly income received. ideally reinvesting 10% and living off 90% of the distributions builds in a rising incoming stream as well.

    2. It sounds like you have significant diversification among dividend stocks, which tend to have a strong value tilt. The risk you face is not much different from the risk an index investor with the same withdrawal rate would face. If stocks perform poorly enough, both approaches would have problems. Imagine stock prices being chopped in half, they stay low for years, and most dividends get cut. I don't live in fear of such dire scenarios, but they're not impossible. My main point is that such a scenario would hurt both index investors and dividend investors. There is no reason to believe that dividends would be spared if the economy goes in the tank for an extended period of time.