Why 1966 Was the Worst Year to Retire (and Why It Matters in 2023)

What You Need to Know

The difficulty experienced by retirees between 1966 and 1995 is the basis of the 4% withdrawal rule.
Retirement simulations are useful, researcher Wade Pfau says, but they are limited in profound ways.
He suggests rerunning simulations as circumstances change and using flexible spending approaches.

Most financial planning professionals are able to articulate the basic premise of the 4% safe withdrawal rule, but that doesn’t mean they fully appreciate either the real power of the retirement spending framework or its significant real-world limitations.

They also might be unaware of where the 4% figure came from. As retirement income researcher Wade Pfau recently pointed out, the popular guideline for how much money is safe to spend annually in retirement was calculated based on a retirement beginning in 1966.

“In the original analysis, this was basically the toughest 30-year period on record for a new retiree,” he said on a recent episode of the Economics Matters podcast.

In general, financial planners struggle to fully understand and accurately contextualize Monte Carlo simulations — of which the 4% withdrawal rule is perhaps the most famous and widely cited example, Pfau said.

As Pfau told podcast host and Boston University-based economist Laurence Kotlikoff, the topic of poorly contextualized Monte Carlo simulations and the shortcoming of the 4% withdrawal rule might sound like overly academic or esoteric matters, but they are actually of paramount practical importance to financial planners serving investors focused on retirement.

“Don’t get me wrong, the 4% rule does have a lot of practical use,” Pfau says. “It is, to put it simply, a research guideline that can allow for the start of a solid conversation about income planning.”

What is critical to understand, however, is that this type of modeling is highly sensitive to the inputs and assumptions being used, Pfau warns. Monte Carlo simulations, with their focus on generating binary success-failure probabilities, can mask a lot of nuance in middle-ground cases where success and failure are harder to define, “such that we have to view all retirement simulations with a significant degree of caution.”

According to Pfau and others, an overreliance on probability-focused Monte Carlo simulations is one key problem for the planning industry to address, and another is figuring out how to more clearly and effectively communicate with clients about the interplay of complicated sources of risk.

Ultimately, Pfau argues, now is a great time for advisors to learn and leverage some of the key planning concepts being put forward by academics, and he says studying the history of the 4% withdrawal rule is a decent place to start.

Where the 4% Rule Really Comes From

“You might not expect it, but we can actually still learn a lot by going back and looking at the study that first brought about the 4% withdrawal rule,” Pfau says, citing the work of Bill Bengen, the researcher and retired advisor credited with inventing the spending framework.

“For example, it is really interesting to look back and see that the 4% ‘safe’ withdrawal figure itself comes from what would have been safe to spend during the 30 years from 1966 to 1995,” Pfau explains.

As Pfau notes, the period in the late 1960s and early 1970s was a tough time to retire. Inflation ran rampant, and the S&P 500 scored several significantly negative years in that period. Returns were particularly poor in 1966, 1969, 1973 and 1974.

“Notably, after 1982, or about halfway through the 30-year retirement that started in 1966, the markets actually did really well,” Pfau observes. “The key takeaway here is that, even though the average return to a portfolio was decent between 1966 and 1995, the sequence of returns was really difficult for retirees to deal with.”