A key part of planning for Financial Independence is to determine the assumptions you make for the future. This is always a “moving target” as we are trying to predict the future. We can go back to past periods of time and try and use that (this is what the 4% rule was based on) but we are trying to predict an ever-changing future. This is fraught with risk.
A person’s personality (and their spouse’s personality) now “comes to the fore” here. If they are optimistic, then the prediction is on high investment returns, low inflation, and good health. If they are pessimistic, then its low investment returns, high inflation and potential higher costs for health care. Most folks are somewhere in between – but this is a key part of the “angsts” of people trying to hit their retirement goals – and has been for many decades. The fact that folks are living longer (and thus the big problem if they guess wrong) has further caused people’s stomachs to churn.
Many people in the FI community have never lived in a high inflation era. Inflation got smacked down in the 80s, so for the last three decades, we’ve been living with 2% – 4% inflation. For those of us older (late 50s, 60s) we remember the 70s and early 80s, where inflation hit double-digits and caused a massive crunch in people’s plans for retirement. That’s why boomers typically overestimate inflation, and non-bloomers underestimate.
The same goes for investment returns. From 1968 – 1982, the stock market returned a net 0% – fourteen years! So again, boomers tend to be a little more conservative in their return predictions. Non-boomers have known some pretty sweet times for the market (and some crashes) so their predictions might be more aggressive. I’ve written before about how I think the market is way overvalued, so we may be in for a significant correction/crash in the near term.
So what are my FI assumptions?
- Inflation -3% per year
- Social Security increases – 2% per year (i.e. doesn’t keep pace with actual inflation)
- Stock returns – 7.8% per year (down from historical 10%)
- Bond returns – 3.1% per year (down from historical 4.6%)
- Return for 60% stock/40% bond portfolio – 5.92%
- Return after inflation – 2.92%
- Life timeline: Live to 97 (me) and 99 (Mrs. 39 Months)
I used to be more aggressive with my investment returns, but after my meetings with our investment advisor in 2019, I dialed them back somewhat.
Based on this, our current portfolio, and taking Social Security at age 67, we could retire now and still end up with the equivalent, in 2021 dollars, of $291K at time of death. So we’re FI!
Still, the assumptions could be not pessimistic enough – and we could be hurting in our old age. We will see…..
So what are your assumptions for your calculations?
Mr. 39 Months