Will Your Portfolio Survive?
My study of endowment funds has helped me to form a strategy that can help you manage your portfolio and make it produce a life income. Knowing what endowment funds do to ensure a future cash flow and still allow you to spend today can help you make sense of investing. Did you know that most colleges and churches have between 4 percent and 5 percent annual withdrawal rates even if they are earning 15 percent to 20 percent annually? Even if they have a negative return they still spend between 4 percent and 5 percent of the portfolio, hoping for better returns the next year. Remember that 5 percent of a growing account becomes a larger amount each year. This larger income can offset inflation! As well, after several good years they may have an exceptional withdrawal. (The wealth effect we hear about is the spending of gains made in stocks rather than spending income.) In this manner they do not dictate to the portfolio what it must return, but allow the portfolio to deliver what it can and, naturally, when it can. The variability of returns does not bother the CFO of an endowment fund.
Like the endowment or foundation, the retiree withdraws money in a rather odd manner. Retirees spend what they are not sure of earning and may not earn that year. This situation is different from when the person was a worker. With steady pay, a worker can spend money before he or she earns it, knowing how much is coming in. On this premise, banks will loan money to a young working person with few assets but potential income. Retirees spend money no matter what they earn. This constant drain is a major investment problem that clients want professionals to contend with. It is a mathematical problem, which people like me love to solve—one of the small joys of our business. Face it: the rule you will learn to live with is that you will spend money whether you make it or not.
