Cracking the Retirement Code: Our Journey to a Sustainable Withdrawal Strategy

When my wife and I first started planning for early retirement, we kept hearing about the famous 4% rule. You know, withdraw 4% of your nest egg each year, and you’re set for life. Sounds simple, right? But as we dug deeper, we realized something crucial: what works for a 30-year retirement might not cut it for us early retirees looking at 60+ years of freedom!

So, we rolled up our sleeves and embarked on a quest to find a withdrawal strategy that would let us sleep soundly at night. Our golden ticket? A CAPE-based variable withdrawal rate. Stick with me, and I’ll break it down in a way that won’t make your eyes glaze over (I promise!).

CAPE: Your New Best Friend in Retirement Planning

First things first: what the heck is CAPE? It stands for Cyclically Adjusted Price-to-Earnings ratio, a fancy term cooked up by economist Robert Shiller. In simple terms, it’s a way to gauge whether the stock market is overvalued or undervalued.

Here’s the gist:

• High CAPE = stocks might be overvalued = be cautious with withdrawals
• Low CAPE = stocks might be undervalued = you can potentially withdraw more

Think of CAPE as your financial weather forecast. It helps you decide whether to bring an umbrella (be conservative) or leave it at home (be a bit more generous with yourself).

CAPE ratio = price/average earnings for ten years, inflation-adjusted

Our Tailor-Made Withdrawal Strategy

After countless hours of research and number-crunching, we landed on a variation of the CAPE-based withdrawal method. Here’s how we put it into action:

1. We created a spreadsheet to track our portfolio balance, CAPE ratio, and suggested withdrawal amounts.
2. At the start of each year, we input our current balances and the latest CAPE ratio.
3. Our spreadsheet then calculates a suggested withdrawal rate based on the formula: SWR = 1.5 + (0.5 x (1 / CAPE))

For us, this typically results in a withdrawal rate between 2.5% and 4%, depending on market conditions. It’s more conservative than the traditional 4% rule, but it gives us peace of mind knowing we’re adjusting to market realities.

Putting It All Together: Our 2020 Game Plan

When we kicked off our retirement in July 2019, we gave ourselves a few months to settle in before implementing our new strategy. Come January 2020, we were ready to roll:

1. We recorded our portfolio balance and the current CAPE ratio (30.99 at the time).
2. Our spreadsheet suggested a withdrawal rate of about 3.11%.
3. We rounded it up slightly to 3.25% because, hey, life’s too short to fret over decimal points!

This approach meant leaving thousands of dollars in our account compared to a traditional 4% withdrawal. But for us, that extra cushion is worth its weight in gold (or stocks and bonds, in this case).

Beyond the Numbers: Our Holistic Approach

While our CAPE-based strategy forms the backbone of our withdrawal plan, we’ve incorporated a few other elements to keep our financial ship steady:

1. We keep dividends as cash instead of reinvesting, giving us a little extra liquidity.
2. We’ve started a Roth IRA conversion ladder to access retirement funds before hitting 59½.
3. We’re always mindful of sequence of return risk (but that’s a story for another day).

Four Years Later: How Our Strategy Has Performed

It’s been four years since we implemented our CAPE-based withdrawal strategy, and I’m excited to share how it’s working out for us. Here’s a breakdown of our actual withdrawals compared to both the traditional 4% Safe Withdrawal Rate (SWR) and our CAPE-based SWR:

This data reveals some interesting insights:

• Our CAPE-based SWR consistently suggests lower withdrawal amounts compared to the traditional 4% rule, reflecting a more conservative approach.
• In 2020, our actual withdrawal was slightly higher than the CAPE SWR amount, but still well below the 4% rule.
• In 2021 and 2023, we withdrew significantly less than both the 4% rule and our CAPE-based SWR suggested.
• In 2022, our withdrawal closely aligned with the CAPE SWR amount, demonstrating the effectiveness of this approach.

Overall, our actual withdrawals have been lower than both the 4% rule and our CAPE-based SWR in most years:

• Compared to the 4% rule: 18.7% less in 2020, 34.1% less in 2021, 20.2% less in 2022, and 48.8% less in 2023.
• Compared to our CAPE SWR: 4.4% more in 2020, 21.8% less in 2021, 0.7% less in 2022, and 36.3% less in 2023.

You might be wondering how we’ve managed to withdraw even less than our conservative CAPE-based strategy suggested in some years. It’s important to note that these lower withdrawal rates aren’t solely due to extreme frugality. There are a few key factors at play:

1. Sale of Rental Property: We sold our rental property, which provided us with additional funds to cover our living expenses.
2. Cash Cushion from New Home Mortgage: When we purchased our new home, we took out a mortgage. This decision allowed us to maintain a healthy cash cushion, which we’ve been able to use for our living expenses.
3. Portfolio Growth: Despite withdrawing money to cover some of our living expenses, our investment portfolio has actually grown over these four years. This growth provides an extra buffer and helps combat the effects of inflation.

These factors, combined with our CAPE-based withdrawal strategy, have allowed us to withdraw less from our portfolio than even our conservative calculations suggested. It’s a reminder that retirement planning often involves managing multiple income streams and assets, not just investment portfolios.

Lessons Learned and Looking Forward

Our experience over these past four years has reinforced our belief in the value of a flexible, conservative withdrawal strategy and diversified assets. Here are a few key takeaways:

1. CAPE-Based Strategy Provides a Solid Guideline: Our CAPE-based SWR has consistently suggested more conservative withdrawals than the 4% rule, aligning well with market conditions.
2. Flexibility is Key: Being able to adjust our withdrawals based on market conditions and other income sources has allowed us to be even more conservative than our CAPE-based strategy suggested when possible.
3. Multiple Income Streams Help: Having income from the sale of our rental property and a cash cushion from our mortgage decision has provided valuable flexibility in our retirement finances.
4. Lower Withdrawals Can Benefit Portfolio Growth: By often withdrawing less than even our CAPE-based SWR suggested, we’ve allowed a larger portion of our portfolio to remain invested and grow.
5. Prepare for the Unexpected: While our strategy has worked well so far, we remain prepared for potential market downturns or unexpected expenses that might require larger withdrawals in the future.

As we look to the future, we plan to continue with our CAPE-based withdrawal strategy while also managing our other assets wisely. We’re open to making adjustments as needed, as one of the biggest lessons we’ve learned is the importance of remaining flexible and adaptable in retirement planning.

Your Turn: Finding Your Retirement Sweet Spot

Remember, there’s no one-size-fits-all solution when it comes to retirement planning. Our CAPE-based strategy works for us, but it might not be the perfect fit for everyone.

The key is to find an approach that aligns with your goals, risk tolerance, and sleep-easy factor. Whether you’re already enjoying retirement or still in the planning stages, take the time to explore different withdrawal strategies. Your future self will thank you!

Curious to play around with the numbers yourself? I’ve created a read-only version of our spreadsheet that you can copy and customize.

Now, I’d love to hear from you: If you’re retired or planning to retire soon, what’s your game plan for withdrawals? Drop a comment below and let’s keep the conversation going!