(This is an edited version of an interview by Michael Kitces, who is widely recognised as the publisher of the #1 financial planning blog in the United States. His website, kitces.com, is also home to the popular ‘Nerd’s Eye View’. See end credits for more details).

Bill Bengen is the former owner of Bengen Financial Services, an independent advice firm based in Southern California. He’s known as the father of the 4% ‘safe withdrawal rate’ that he put into practice.

Bill discusses how he first developed the safe withdrawal rate research, the retirement problem in the early 1990s that he was trying to solve, how Bill integrated his 4% rule into his financial planning business, and why he didn’t actually use the 4% safe withdrawal rate with his clients. 

Michael: The research that you did around retirement withdrawals – what I think now we collectively call the 4% rule – has been around for more than 25 years since you originally published the article on it.

So talk to us now about the evolution of the 4% rule research that you did. What was going on at the time that made you say, “Okay. I want to do some research and write a paper about this and take a swing at what I think is going on with this retirement thing?”

Bill: Yes, I can tell you, the last thing I wanted to do with a fast-growing practice was to get involved in a research project that would take several thousand hours of my time, evenings, and weekends. But clients were coming to me and they were asking, “I want to save for retirement. How should I save? How much should I save? And then, when I go into retirement, how am I going to spend this money? How do I set my investments up?”

I just completed a CFP course within the last year, 18 months. That’s about 1993. And I couldn’t recall anything in any of those textbooks that addressed these issues. I spoke to people and I got a lot of different answers. There seemed to be rules of thumb based on vague experience. No one had any definitive analysis that I could find. So I said, “I guess I’m going to have to do it.” So I just got out my computer and my spreadsheet, got a copy of the Ibbotson data and started cranking numbers. That’s what it came down to.

Michael: And so, can you set the context for us at that time? What were the rules of thumb and things going around at the time that you were looking and saying, “Yeah, this isn’t cutting it, we got to go a little deeper on this?”

Bill: Well, some people said the average portfolio return is what, 7.5%? A 60/40 over time, so you should be able to take out 6%, 7%, no problem. A lot of people said, “Oh, my goodness, you’re in retirement now. You have to be in bonds, 100%. You can’t afford the risk of the stock market. What are you thinking?”

And of course, when I get into the data, neither one of those positions turned out to be viable. They were both wrong.

Michael: How did you ultimately come to this number of 4%? What made 4% the magic number that says this is the one that Bill has dubbed safe for all of us?

Bill: Well, I experimented with portfolios of different allocations and took the withdrawal rate down until I got a portfolio that lasted 30 years. And at that time, I was only working with two asset classes, basically, large company stocks and treasury notes. And I got a number of 4.15%. I created this chart and I looked at it and I said this is amazing because the withdrawal rate is the same over a very wide range of stock allocations, I think between 45% and 75%, it was about the same.

So at that point, it didn’t appear to make too much difference what you choose. But I knew that a very heavy stock allocation was bad and a very low stock allocation was bad. So I came out with a number and, of course, that number has haunted me for years since then because you know that one number cannot represent the experience of so many different retirees. There’s just too many dimensions to the problem to have a one-number solution.

Michael: And to think you went out with the thing that became so popular, people started calling it a rule of thumb and saying that’s ridiculous because it’s too generalised.

Bill: Yes, I don’t think I ever used the term ‘4% rule’. That was kind of a creation of the media. When I got introduced to the media, they wanted something simple to present to their readers. And they focused on that and said, “This is the answer,” like a tic-tac-toe game, put the X here.

Michael: A lot of people will point out like, “But Bill, we only get half a percent on some of our bond returns right now. When you were doing that research, you could get 6%, 7% to 8%.” It’s like, “Yes, but when you were doing the research, we were coming off double-digit inflation environments not that many years before.

So when you start looking at things like real rates of return after inflation, we may be in a somewhat lower return environment, but they’re not nearly as low a return as sometimes we make it out to be because we look at the nominal and forget the real.

Bill: Yes, I absolutely agree with that. I think it’s an overreaction. I haven’t been able to develop scenarios myself in our low inflation environment where it goes below 4.5%. So I’m not sure where those concerns are coming from. I haven’t seen the background work behind those claims, those concerns.

Michael: So I guess the big asterisk to the whole thing about 4% rule and that original research is just, today, we do have more investment opportunities. We own more than it – lower than two-asset class portfolio, large cap U.S. stocks, intermediate U.S. government bonds, and nothing else. And I guess it’s no great surprise, or as we know from modern portfolio theory, in theory, if we have more diversified portfolios, we can get better risk-adjusted returns. And I guess, when you put the safe withdrawal rate lens on it, you get a similar effect, more diversification and less volatility for a unit of risk. And then, you end up with more retirement income sustainability, and your 4% rule becomes a 4.5% rule.

Bill: One thing I noticed when I introduced the small cap stocks, because they’re much more volatile asset class than large caps, where before I had a very wide plateau between 45% and 75% stocks. It narrowed it down to 50 or 60 as being the optimum equity allocation.

Michael: Interesting. So as you got more diversification in there, it kind of narrowed in like here’s really the optimal balancing point of enough but not too much on the risk spectrum.

Bill: Exactly.

Michael: So I am curious then, what did this look like in practice with clients? Was this something you used in practice with clients? Was this like cool research but we still have to do it other ways when you get down to individual client’s circumstances? What did the 4% rule or 4.5% rule look like for you as a practitioner with clients?

Bill: Well, when I started my practice, I didn’t actually have too many clients in retirement, okay, they tended to be closer to my age and only in the later years of my practice. But clients liked the idea. They understood the basis. They read the material. They thought it was sound.

You have to be very upfront with clients and explain to them that this is not a science we’re doing. Okay? It’s not like Isaac Newton sitting down and developing his three laws of motion in physics, which will probably stand for billions of years into the future. What we’re doing is almost a social science. We’re examining the past and we have data, but we don’t have an underlying theory that relates data and facts. So we can’t use it to predict anything. We can only use it as a guide.

Michael: So as you went through this with clients, was the 4% rule largely your number, or did you start using 4.5% after you did your book and kind of found, “Hey, once we get more diversification here, this number goes up.”? Did you have a different number you used for some clients?

Bill: I used about a 4.2% number to start. But you know every client’s situation is different. I had clients that were 5.5% because they are expecting a large inheritance, let’s say five years down the road, that they’re fairly certain of. And I have clients who were down at 3% because they had a pension plan that had no inflation adjustment. So over time, they were going to have appreciating demands put on their portfolio to support their income stream. So, yeah, we start with four, but there’s a wide spectrum around it.

Michael: As you built your business, how many clients did you find was your comfort point? When was it no more for you?

Bill: I got up to about 80 clients. I found that was about all I could handle, the real books that I had. That was a comfortable number, so I tried to keep it right around there.

Michael: Okay. So you got up to about 80 clients and kept it there. My guess is that if you leave or move or, unfortunately, pass on, you free up a few spaces. You add a few clients back in and just for you and your wife helping you in the practice that was the comfortable level of, “I can serve these clients, the income is good. We’re going to hang out here.”

Bill: That’s right. No, even with that limited number of clients, I spent a lot of hours working nights, weekends, and I’m sure a lot of solo practitioners do that. I was younger; I’ve always enjoyed working hard. But if I had to do it over again, maybe I’d hold up to 60 clients.

Michael: It’s the amazing thing about the advisory business, though, is just clients tend to stick around as long as we’re servicing them well. They pay a pretty good dollar amount per client at the end of the day. You don’t need an immense number of client relationships to have the math add up pretty well.

Bill: No, it’s really, to me, it’s beautiful profession. At least, it was back when I was in it. You have a very close … you feel like you’re really making a difference in people’s lives on a day-to-day basis, you have a direct personal contact with them, they can get you anytime they want to. And you know you have the technical skills and the support systems to do whatever they need to get done. So it’s very, very, very satisfying.

Michael: And so, how long did you continue to run the practice? When did you ultimately decide you were ready to be done done?

Bill: Twenty-five years, just about, and that was 2013 when I retired. Quite frankly, I had concerns about the market, investing. I always told my clients that I would invest my money exactly as I invested theirs. As we moved into the middle of the 20 teens, I didn’t think that was possible anymore. I felt I needed to get much more conservative, but I didn’t want to impose that on them. Because the market could continue to go up. And so it did. So I figured I had a good run, time to cash in, go on to something else.

I did a great job when I got my clients completely out of the market in late 2008. So they never suffered the losses that other folks did. On the other side, I did a lousy job getting them back into the market after the crisis ended. If I knew then what I know now, it would have been a completely different process. But the whole financial planning profession is built around buy-and-hold philosophy, I understand that.

I think that’s a mistake. I think our profession needs to be open-minded and look at alternative means of managing money and not just assume that buy and hold is the correct way to do it. Buy and hold is what I used in my analysis, my 4% rule. One thing is because it’s a lot easier to analyze things than multiplicity ways you can manage money by other means. But just because I did that analysis, I told people, it doesn’t mean you have to manage your money that way.

And I remember going to an FPA meeting late in November of 2008. And advisors, you know, they look like they’ve just been beaten to death. They didn’t know what to tell their clients. They lost so much money for them. They were literally in tears. And I wasn’t in that situation, which I thought was cool.

Eventually, of course, the money came back, or a lot of it. Thanks to QE. But I didn’t have the process in place at that time to get back into the market. There were clear indications now, if you look at that March and April we should be heading back in there heavily.

Michael: And so, as you look at it today, you’ve now done literally decades of this research, you’ve lived it, you’ve lived with multiple market cycles, so I guess I’m wondering two things. One, how do you look at the 4% rule today? Is that still the number, or is it 4.5% or is it 5% or is it something else?

Bill: I think somewhere in 4.75%, 5% is probably going to be okay. We won’t know for 30 years, so I can safely say that in an interview.

Michael: And you think of that paired with, it sounds like, with a more conservative allocation, at least for the time being given where valuation is?

Bill: Yeah, I think in the course of my career, to avoid large losses, yes, with the thought that if the market were to return to historically reasonable valuations, let’s say, high-teens, mid-teens in the Shiller CAPE. Then I would look in to get very, very aggressive in stocks. Maybe higher than 50% to 60% I would recommend because there are very few sources of reliable income. And fixed-income investments are giving me nothing. So, I thought I’d go to 80%, 70%, 80%, 90% dividend-paying stocks if I could get them at cheap enough prices. I’m not concerned about safety. Because if you buy something at the right price, you’re good for many years. So that’s kind of a radical change in my view, but I think that is necessitated by the times.

Michael: And all driven by this combination of low yields, which will drive you towards more stocks but low inflation, which actually gives you comfort that we don’t need to be hanging out down like 2% or 3% withdrawal rates, high 4% is enough, 5% is still reasonable because at the end of the day, when inflation is this low and you’re only spending a few percent, you actually don’t need a huge amount of growth in your portfolio.

Bill: No, but once you get into preserving the capital, when you retire, you’ve got that chunk of money, you want to preserve it; you don’t want it to get diminished by any substantial amount because it may not come back. It may not.

Michael: So out of curiosity, anything you’ve learned as a retiree, compared to what you advised retirees – does the view look different from the other side of the retirement transition as you think about the advice you gave and now the advice you’d want to receive as a retiree?

Bill: I always told my clients, they should be thinking of retirement as moving towards something, not away from something. You’re not moving away from your work life. You’re working to a whole new scheme of life. And that therefore you should have things, whether it be hobbies, activities that you want to be actively involved in and know what they are. And perhaps setting the groundwork for that before you retire. I’ve got my writing, my research, which is part of the reason I retired. I want to have more time to do all that.

And that’s worked out very well. So I feel pretty comfortable how retirement … I can’t even call it retirement. I’m putting in five days a week of writing. Weekends are still meaningful to me, believe it or not. It’s not all one anomalous, amorphous time span. There are weekends that are workdays. And I expect that gives meaning and structure to my life.

Michael Kitces is Head of Planning Strategy at Buckingham Wealth Partners, a wealth management services provider supporting thousands of independent financial advisors.

In addition, he is a co-founder of the XY Planning Network, AdvicePay, fpPathfinder, and New Planner Recruiting, the former Practitioner Editor of the Journal of Financial Planning, the host of the Financial Advisor Success podcast, and the publisher of Nerd’s Eye View through his website Kitces.com, dedicated to advancing knowledge in financial planning. In 2010, Michael was recognised with one of the FPA’s “Heart of Financial Planning” awards for his dedication and work in advancing the profession. This extract is reproduced with permission.