This article shows that if you decide to retire today, how long will the corpus last realistically based on real rates of return.

📚 Table of Contents

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• Why is real return important for investing?
• Defining real return
• How does SWR relate to real returns
• What is the real rate of the retirement portfolio?
• Who can use this information

This article is a part of our detailed article series on Safe Withdrawal Rates. Ensure you have read the other parts here: Show/Hide

Why is real return important for investing?

Inflation, as we discussed in our detailed article on inflation recently, increases the future value of goals to unexpected levels. We can use the rule of 72 as a convenient mental shortcut to understanding the impact of inflation.

The rule says: Rate of doubling * Time in years = 72

Rule of 72 lets us quickly calculate the impact of inflation over time. For example, using the rule, we can see that:

• the purchasing power of money halves every ten years at 7% inflation. For example, one crore worth today will be worth 50 lakhs in 10 years and 25 lakhs in 20 years
• a lump sum payout, say from an insurance plan, is worth around four times less in today’s money if received in 20 years
• if you need one lakh/month in living costs in the first year of retirement, that will be two lakhs/month in ten years and four lakhs/month in twenty years

The above examples show the danger of linear thinking when money is involved especially in retirement. For example, any goal planning that ignores the effect of inflation will lead to inevitable failures when it is time to spend the money. Similarly, investing in insurance plans that give a fixed return over life will lead to getting smaller and smaller amounts in real terms that will be useless in the later years of retirement. The actual calculation is an application of the compounding formula like this:

Cost after N years = Cost today * (1+Inflation) ^ Time

Here is a table that applies the above rule:

For example, at 9% inflation, a goal ten years away will increase by 2.37 times. If the cost today is ₹10 lakhs, after ten years, it will be ₹23.7 lakhs.

Defining real return

Given that we need to keep track of inflation while investing, the real return is a convenient tool to subtract the effect of inflation from the nominal portfolio returns.

Return over inflation, i.e. real return, is calculated as

Real return = ( 1 + Nominal Return ) / ( 1+ Inflation ) - 1

or more simply

Real return = Nominal Return - Inflation

The second formula is a bit less accurate but is simpler to understand and calculate.

Real return during the retirement period depends on:

• real return assumptions of each asset class in the retirement corpus. Typically this will be equity, debt and cash. Many others will have real estate and gold in their portfolio
• the asset allocation for each individual expense goal based on the horizon. We are creating one single goal for the expenses in each year of retirement using the same concept described in this post: how to get SIP amount for a goal with multiple payments
• the glide path for each of the individual goals
• inflation in the accumulation phase (when you are saving for retirement) and in the post-retirement phase

How does SWR relate to real returns

With this background, we will look at how to use the concept of real return with the SWR in retirement.

SWR, as we have defined before while studying if the 4% SWR rule works in India, works like this:

• The SWR is the amount withdrawn from the portfolio in the first year of retirement
• this amount is increased gradually by the prevailing inflation rate every year after that

We will assume that the first year’s withdrawal is a value between 1% and 5%. The withdrawal amount will be increased by inflation of 7% every year. As a practical example, we will take

• starting portfolio of one crore
• ₹2.5 lakhs expense in year one; 2.5 * 1.07 = ₹2.675 lakhs expense in year two etc.
• since SWP is a standing instruction, we will edit the withdrawal amount in the mutual fund portal once a year to adjust for inflation

Start ↑↓	₹ 1,00,00,000 ↑↓
Withdrawals ⬇️	–
Year 1	₹ 2,50,000
Year 2	₹ 2,67,500
Year 3	₹ 2,86,225
Year 4	₹ 3,06,261
Year 5	₹ 3,27,699

If we assume a real return of zero, i.e. the portfolio grows at the same rate it is withdrawn from, a lot of our retirement calculations become very simple. With zero real returns, the starting retirement corpus divided by the expenses in the first year of retirement is the number of years the corpus will last. It is that simple.

A 1 crore corpus growing at 7% will therefore support a 2.5L SWR (growing at the same 7%), for 100/2.5 = 40 years.

If the real return is more than zero, that is if the portfolio grows faster than inflation, then the number of years it will last will be more. Conversely, if the portfolio is very conservative, the real return will be negative and it will last lower than in the previous case. We have discussed these points before as well:

• Can you retire by keeping money only in FD or pension?
• How conservative investors risk falling short of their goals

The table shows the relationship between SWR and the real rate of return to show how long the corpus will last. From the table we can see that:

• lower the SWR or higher the real return, the higher the time the corpus will last
• at lower SWR, the change in the number of years is more sensitive to a change in real rates
• if SWR abruptly increases during retirement, say due to unexpected and prolonged health issues, the risk of rapid depletion of the corpus is very high

What is the real rate of the retirement portfolio?

We have already done some inflation studies with historical data for India:

• Inflation: the impact on your goals and how to choose assets that beat it
• Can debt funds beat inflation?
• You cannot beat inflation even with equity mutual funds: here’s why

We will assume the following as the retirement portfolio

• Equity: 4% (large-cap domestic stocks)
• Debt: -3% (short duration < 1-year T-Bill or money market)
• Asset allocation: 60:40 constant

We see that the real return of the portfolio is:

Real return = 0.6 * 4% + 0.4 * (-3%) = 1.2%

We have covered the 1.2% real return case in the above table which shows that if SWR is 3% or less, the portfolio can easily last 40 years or more. There if you are planning to FIRE for 40 years, a 3% SWR with a 60:40 equity:debt portfolio is a good option with these assumptions.

If the SWR is higher than 4%, there is only a limited chance that the portfolio will last longer than 30 years.

This result was a portfolio with a fixed asset allocation, a bit like a unified portfolio. In a future article, we will see how a portfolio whose risk component is gradually reduced with time lasts in retirement against various SWRs.

If you are struggling to plan for retirement, this article will help you get started: Low-stress retirement planning calculations: worked out example.

Who can use this information

A table of how soon money runs out is useful for

• FIRE aspirants as a test of if they can FIRE or not
• If you get a large lump sum amount from a sale of a business or property or an insurance payout that is invested for retirement corpus
• If you decide to leave your job to start a business, you can see how long your current lifestyle can be maintained