The 4% Rule

Fundamentals of Market Investing by Adam J. McKee

Many investing resources suggest that you should plan to spend 4% of your nest egg annually in retirement.  This is optimistic for conservative investors unless interest rates rise substantially in coming years.  Consider this a guideline, not a rule of investing.  You may be able to get by on less, especially if you have other sources of income such as annuities and social security.  On the downside, you need to consider the cost of healthcare that will almost certainly rise as you grow older.

Perhaps the reason that the 4% figure is so popular is that the amount is the inflation-adjusted goal of many endowments.  The idea is that a good portfolio manager can realize gains around 7% in a lows volatility portfolio over the long haul.  If we leave 3% in the fund to cover inflation, which leaves 4% per year that would (in theory) last forever.  If you try to use this sort of target, know that you will need a very large nest egg.

For this strategy to work, you will need 25 times your annual take-home pay to retire comfortably.  If you believe that social security will be solvent when you retire, you can subtract that amount (available from the social security website) from your requirements.  The bottom line is that it would be great to endow your retirement and leave the entire principal to your heirs, but that is a tall order, and you should not freak out if you cannot rationally achieve that target.

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Last Updated: 6/25/2018

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