Projecting Returns

[LivingAlmostLarge]

What interest rate do people use when projecting returns and why? Do you change it per time frame say 5, 10, 15, 20 or 25 years?

[KTP]

I use 7% for a 70% stock 30% CD's/I-bond long term.

I figure inflation at about 3% so a 4% real return.

[Petunia 100]

I am also 70/30. I project with 5%, 6%, 7%, 8%, and 9%. We don't really know what the markets will do during our respective investing lifetimes.

[AggieLife]

The rate can of course change over a certain time period. If a fund performs at 20% for 1 year, their 3 year may be 'only' 12%. It just depends on what time frame you want to look at.

However, long-term outlooks of a fund are more logical, assuming you plan on having your money in the fund for at least a few years.

[KTP]

I figure for the 70% stock portion I might expect an average return of around 9% to 10% over a 30 year period. For the 30% CD/I-bond portion I expect about 3%.

.7 * 9% + .3 * 3% = 7.2%

Subtract 3% inflation and you get 4.2%

I rounded down to 4%

So technically with a 4% SWR your portfolio will last forever.

[feh]

In his book Unveiling the Retirement Myth, Jim Otar explains why using an "average" annual return is not a good way to predict portfolio growth. I'm not going to go into the details here.

While not perfect, using Monte Carlo simulations is a better option. Clearly we can't predict the future, but using actual returns from the past is a useful exercise.

If you aren't already familiar with firecalc.com, I suggest you spend some time with it.

[JoeP]

It is nice to say your portfolio is growing at a certain rate, then adjust for inflation. But then when you withdraw investments which were funded with pre-tax dollars, you take a further hit. How is this calculated?

[jIM_Ohio]

If your savings rate is high enough, returns won't matter

I use 8% return which is 5% real return on all retirement projections
For anything shorter term, I ignore return (for example college savings) and focus on maintaining purchasing power.

[corn18]

I do it 2 ways: 4.6% return after inflation, 4.6% withdraw. Zero sum game. This is my most conservative model. Then I use this model for monte carlo projections: Flexible Retirement Planner I can play around with a lot of variables and do a lot of what if's. The end result is a more optimistic answer vs. the 4.6% return, 4.6% out model. What is really interesting is to watch what happens to your retirement fun if you index the return to the S&P 500. Risky but awesome.

Here's a comparison of the conservative 4.6% and the less conservative monte carlo:



I can retire 2.5 years earlier if I believe the less conservative monte carlo model.

Tom

[humandraydel]

I use 5% real return in all calculations. Agreed that technically a monte carlo simulation is much better. It would also be better to start with higher returns and reduce return over time as you age and shift to a more conservative portfolio.

[kork13]

As with some others, I normally plan by just using an average 5% real return for all of my long-term investments (20+ years). For mid-term investments (10-15 years), I go with about 3% real, and for short-term money (<5 years), I use 0-1% real. I figure I can't predict what inflation will be, so I ignore it and just use real returns.