Lower Stock Valuations + Higher Interest Rates = Higher 3.8% Base Safe Withdrawal Rate

Investing for the long run is easier if you temper your emotions with the knowledge that lower stock and bond prices today suggest higher future returns (and vice versa). Morningstar has just released the 2022 edition of their research paper The State of Retirement Income (e-mail required, intro article), where they point out this silver lining:

Because equity valuations have declined and cash and bond yields have increased, the forward-looking prospects for portfolios—and in turn the amounts that new retirees can safely withdraw from those portfolios over a 30-year horizon—have enjoyed a nice lift since we explored the topic last year.

Whereas last year’s research suggested that a 3.3% withdrawal rate was a safe starting point for new retirees with balanced portfolios over a 30-year horizon, this year’s research points to 3.8% as a safe starting withdrawal percentage, with annual inflation adjustments to those withdrawals thereafter.

I haven’t processed the entire 29-page paper yet, but here’s a chart summarizing the differences between the future outlooks in 2021 and 2022. Quite a difference in only a year.

None of these numbers are guaranteed of course (in fact they are virtually guaranteed to be wrong), but step back and look and the big picture. Lower P/E ratios and a higher starting interest rate definitely provide a stronger investing base. You are buying businesses at a lower price and your bonds can again provide cushion now that interest rates have room to fall. As long as you are a buyer, this is a good thing.