Is Your Risk Tolerance High Enough To Invest? Follow The Slaughter Rule

Risk Tolerance In The Stock Market

As I've gotten older, my risk tolerance has steadily declined. This is partially why I've only got ~30% of my net worth allocated to the public markets. When you accumulate enough wealth, you no longer want to have as much exposure to assets that are intangible, risky, and hard to control. There's just too much at stake.

For example, let's say you've got a respectable $200,000 invested in the market. If your portfolio loses 30% of its value, you can still make up the $60,000 loss through contributions from your various income sources. It may take a while, but based on current median income levels, $60,000 is not an insurmountable loss.

If you lose 30% on a $2 million portfolio, making up $600,000 is a grind! If the $2 million was derived mostly from middle class wages you earned over the decades, you've pretty much screwed yourself out of ever living off a $2 million portfolio if you planned to retire then. You might be dead long before you ever get back to even.

The History Of Market Declines And Risk Tolerance

Some may think: the more money you have, the more risks you can take! In my 20s, I used to think this way. Ah, to be young and so bold. As you get older, you stop thinking only about yourself and begin thinking about taking care of your aging parents, your spouse, your children, and other people around you who are less fortunate. Responsibilities increase with age. They don't decrease.

During times of volatility, it is always a good idea to reassess your risk tolerance. This latest bull market created “investment gurus” out of many people who've never experienced a downturn. Downturns always come. The question is whether you have the risk tolerance to hold on until the recovery?

A correction in the stock market is usually defined as a 10% or greater drop in a major index like the S&P 500. But as we know from history, bear markets sometimes correct much more than 10%. Take a look at the chart below which details previous downturns.

History Of Stock Market Corrections
History Of Stock Market Losses

Risk Tolerance Is Overestimated

The stock market can easily go down 50%+ over a 5 – 10 year period. If you have to sell during a bear market, you will likely miss out on huge gains later on. 

A 50% decline in an investment requires a 100% increase just to get back to where you started. What investors need is time in the market to withstand all the punches.

Now that we've reviewed the history of the stock market, it's easy to see how we could correct even further than 10% given sluggish employment, the pandemic, valuations on the upper end of historical ranges, rising interest rates, a bubble in private equity, and slowing corporate profits.

The stock market tends to be a great harbinger of things to come. Once the stock market goes, so goes the property market, labor market, private equity market, and everything else.

It is my experience that your risk tolerance is an illusion. Unless you've lost a lot of money before in a bear market, you really have no idea how true your risk tolerance is.

Follow The “Slaughter Rule” For Investing

If you are unable to withstand a 50% drop in stock prices, then do not invest in the stock market. Those who are unwilling to lose 50% of their capital will inevitably panic sell and miss a likely rebound.

For those who didn't have much capital invested during the 2008-2010 crash, it's more than likely you are overconfident about your risk tolerance.

The common response to a 50% correction is, “I'll just buy more!” and “Stocks are on sale!” These types of responses demonstrate either a lack of memory or the lack of experience during times of difficulty.

If the stock market is crashing by 50%, everything else is also getting crushed. Your job loss risk just increased by 10X. Your entrepreneurial income is getting slaughtered because clients stop spending money.

Non-prime real estate will flood the market, sending prices lower. When your world is collapsing around you, all you want to do is hoard as much cash as possible.

If Apple's earnings are down by 50% and AAPL shares are also down by 50%, Apple is NOT on sale. It's valued based on price to earnings multiples is still the same.

The only time a stock is on sale is when the current valuation overly discounts future profit expectations. Please understand this basic concept.

Also quantify your risk tolerance using my Financial SEER method. It's a way to measure risk tolerance in the form of time lost.

Be Honest With Your Risk Tolerance

“Don't confuse brains with a bull market.” – Humphrey Neill.

Be honest with your risk tolerance by carefully analyzing your net worth makeup to help protect yourself and your dependents. Just because someone has 90%+ of his net worth in the stock market doesn't mean you should too.

With ~30% of my net worth in the stock market, my net worth would take at least a 15% hit in case of a 50% correction. Unfortunately, if the S&P 500 is cratering by 50%, my real estate holdings and business will probably also burn in hell as well. Having just ~5% of my net worth in CDs and cash just doesn't feel like enough anymore.

I'm bracing for some lean times ahead and so should you. Over the next 12 months, my plan is to save as much cash as possible, find a full-time job or new consulting opportunities, and look for more online business partnerships.

Finally, I've devised a way to quantify your risk tolerance and determine how much equity exposure you should have. I basically equate risk with time, our most precious asset. Check out my FS-SEER rule to help you better allocate your capital.

Recommendation To Build Wealth

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After you link all your accounts, use their Retirement Planning calculator that pulls your real data to give you as pure an estimation of your financial future as possible using Monte Carlo simulation algorithms. Definitely run your numbers to see how you’re doing. I’ve been using Personal Capital since 2012 and have seen my net worth skyrocket during this time thanks to better money management.

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Diversify Into Real Estate

Real estate is my favorite way to build wealth because it is a tangible asset that is less volatile, provides utility, and generates income. For those with lower risk tolerance, real estate is also considered less risky than stocks. I've got roughly 40% of my net worth in real estate due to my desire for more income and diversification.

Given interest rates have come way down, the value of rental income has gone way up. The reason why is because it now takes a lot more capital to generate the same amount of risk-adjusted income. Yet, real estate prices have not reflected this reality yet, hence the opportunity. 

Take a look at my two favorite real estate crowdfunding platforms.

Fundrise: A way for accredited and non-accredited investors to diversify into real estate through private eFunds. Fundrise has been around since 2012 and has consistently generated steady returns, no matter what the stock market is doing.

CrowdStreet: A way for accredited investors to invest in individual real estate opportunities mostly in 18-hour cities. 18-hour cities are secondary cities with lower valuations, higher rental yields, and potentially higher growth due to job growth and demographic trends.

I've personally invested $810,000 in real estate crowdfunding across 18 projects to take advantage of lower valuations in the heartland of America. My real estate investments account for roughly 50% of my current passive income of ~$300,000.

About The Author

76 thoughts on “Is Your Risk Tolerance High Enough To Invest? Follow The Slaughter Rule”

  1. Nice article. Risk tolerance is directly tied to NW and age. Investing in markets as a source of income needed for day-to-day life expenses, at any age, is a thought alien to me so far. Money needed to pay credit cards, kids school, bills cannot be played with. Cash to make me sleep well, RE to generate rental income, and then markets, in that order. But based on my 2000 and 2008 experiences, in hindsight – 2000 was due to dotcom/Y2K hysteria, 2008 was financial companies, and 2015-16 is for Energy – sector specific, though tied – One should ask oneself if they should have bought general index markets during those times, when everyone was scared to buy even say PG which had not much to do with banks in 2008. Ones who entered the RE or stock market in 2008 made profits. I ask today – is oil here to stay? If yes, I just started a position in Vanguard Energy Index and plan to auto-invest regularly in 2016. Up or down. Dollar cost averaging. Has my risk tolerance gone up? No. But in any case – if one wants to keep it simple, regularly invest in Target Date funds. BTW, most of my investment in stocks is in 401K. And I dont even see a choice to invest elsewhere. So, one should also ask – how much of my NW is in non-retirement accounts?

  2. vampireshift

    I did not read the entire article or comments. Why not divert 401k holdings into fixed income during downturns to minimize losses? I did it last year and my 401k was up 11% for the year on a mediocre overall year for the markets. I primarily want back and forth between company stock and fixed income. I don’t think the average person needs to own stocks outside of a 401k or IRA. There are so many other things that can be purchsed such as real estate, collectibles, precious metals.

  3. Alot of fear and paranoia is never good. Live with peace of mind. The trinity study and the fire calculator is a great tool to quiet the fear of investing and determine what one will need to retire.

  4. Sam,

    You have come around to my thinking: “Cash is King”

    Basically, I consider cash/liquidity to be a giant “put” option against economic disruption. But….. It is also a call option for opportunities.

  5. Adam @

    Beyond our primary residence, we’re almost completely in stocks between our 401k’s, IRA’s, and stock accounts. But if stocks dropped 50% tomorrow, I’d do a little dance and start putting all my capital in to my “permanent portfolio” of things like Hershey, Nestle, Exxon and others.

  6. Trying to get ahead

    My wife and I are in our early thirties and have no children. We earned approximately $316,000 this year and expect to earn approximately $400,000 next year due to a job change this year that fully kicks in for 2016. We saved about $1.5 million over the past 8 years, starting from a negative net worth due to student loans.

    Currently, we have a combined net worth of about $1.3 million, broken out as follows: $15,000 cash, $600,000 stocks (roughly 75% in tax deferred accounts and 25% in taxable accounts, with a combined total of 33% of it in the S&P and the remaining larger 67% in individual equities, most of which are high yielders), $800,000 house, $114,000 mortgage, $27,000 in cars, $20,000 miscellaneous, $30,000 in student loans, $13,000 in car loans and no credit card debt. As far as risk tolerance, the subject of this post, we have about 46% of our net worth in the stock market and 62% in real estate. Naturally, this adds to over 100% because of the leverage effect of the mortgage and other debt on our balance sheet magnifying these figures.

    By YE2016, we plan to bump our net worth up about $300,000 ($220,000 from savings and $80,000 from asset appreciation) to $1.6 million, which should be distributed as follows: $40,000 cash, $690,000 stocks, $825,000 house, $25,000 in cars, $20,000 miscellaneous and no mortgage, student loans, car loans or credit card debt. This debt repayment will move our stock market and real estate ratios to 43% and 52%, respectively. Beyond 2016, we won’t have any debt to pay down and don’t plan to purchase more real estate, so unless we hoard cash (which is a nonproductive asset), we will end up with an outsized stock position. We are concerned about this because it will subject us to tremendous market risk as we grow older. To illustrate this point, based on our model (assuming no job promotions or changes in lifestyle and a straight 3.5% annual income increase and 6% return on portfolio and 3% on real estate), we expect to be worth over $10 million by age 50. $1.3 million will be in our home and the remaining outsized $9 million in the stock market (of which $3.3 million will be in retirement accounts and $5.7 million in taxable accounts).

    We inflated our lifestyle substantially in 2015 with, inter alia, leasing a new luxury car and international travel. This year, we saved about 43% of our gross income (60% net) and spent about 28% of the gross (39% net). Our goal is to save 55% of gross (76% net) and live on 16% gross (22% net), both of which is theoretically possible and works in our spreadsheet but not in the real world for us based on decisions we make every day.

    Does anyone have any thoughts regarding our exposure to equities or otherwise?

    1. You can easily start making private loans with 30% of your money at 11%-13% depending on the deals. I would only loans to companies buying properties with 30% down minimum. Do not even loan to an individual because it would be a nightmare in case of default. If a corp defaults you simply take possession, in this market shouldn’t be hard to sell.

      Technically, you wouldn’t lose money in the stock market long term. But, your knees would tremble as 10 million in stock become 3 or 4 millions in matter of months in case of a meltdown.

  7. For us currency risk is a far bigger determinant of returns at the moment as opposed to equity returns. In Rands our net worth junped by 60% this year due to selling businesses but in usd terms made a nil impact due to devaluation of 30-40% over the year. Similarly the local equity market made a nil return effectively for the year, but any usd-linked equity instruments close on douvled without the s&p performing just due to the currency.

    Oh and dividends can easily be cut, we’ve seen ten of the top 40 dividend payers in the market halt their dividend for the next year, so the link between dividend yield and safe withdrawel rate is very important

  8. Hi Sam, This year I have been keeping 30% of my savings in Savings account earning 1% interest rate. This is because I also think the same that we are almost at the top of the market. Savings earning 1% interest rate is this good option or should I be considering anything else?
    I plan to deploy this cash in the market when there is good opportunity.

  9. Trying to get ahead

    I am in my early thirties and am worth about $1.35 mm combined with my wife. I started investing about 8 years ago. My wife and I earn about $293,000 combined plus about $96,000 in annual bonuses for a total of about $389,000 per year. We also earn about $10,000 per year in dividend income, which we are trying to increase. This year, we are on target to save about 44% of our combined gross income (which is lower than our historical average), spend about 30% on all taxes combined (excluding sales taxes), 1% on interest payments and 26% on spending (roughly half of which was for necessities and the other half discretionary because we spent alot on travel and dining out this year). Our goal is to save 55% of our gross (or 78.5% of our net) and spend 15% of our gross (or 21.4% of our net) next year but I am not optimistic that we can do that.

    To hint at your other recent post, it pains me to know that my wife and I are paying more taxes because of being married. I suggested we cohabitate without getting married to circumvent this “marriage penalty” but she is old fashioned and wouldn’t oblige.

    Here is a current snapshot of our balance sheet: $15,000 cash, $600,000 stocks (mix of individual stocks and mutual funds in retirement and taxable accounts), ~ $850,000 house, $20,000 miscellaneous, $116,000 mortgage, $28,000 in cars total, $14,000 car loans, $30,000 student loan and no credit card debt. That means we have about 63% of my net worth in real estate and 44% in stocks. The number is over 100% because my debt makes some of this essentially on leverage. I teeter back and forth regarding my thought process on debt and market exposure. I want more exposure to certain asset classes in the public equity markets where I don’t have much exposure, but I am beginning to see major swings in my stock portfolio (for me) in absolute terms due to increased size.

    By YE 2016, I plan to have the following mix of assets and liabilities and a net worth of $1.63 mm (or a $280,000 increase over YE 2015): $15,000 cash, $691,000 stocks (mix of individual stocks and mutual funds in retirement and taxable accounts), ~ $875,000 house, $20,000 miscellaneous, no mortgage, $26,000 in cars total, no car loans, no student loan and no credit card debt. That means I will decrease my real estate exposure from 63% of my net worth to 54% and decrease my stock exposure to 42% from 44%.

    After YE 2016, because I will be debt free, I will have the high-class problem of trying to decide how to invest my money. I am not sure if I want to be a landlord, but I also don’t want oversized exposure to the public markets. In the same vein, I do not want to hoard cash because it is an unproductive asset. Thoughts?

  10. I am in my first year of early retirement, and was greatly helped by having 100% in equities during the 2007 crash. I was at a time in my career where I could maximize retirement savings. My retirement portfolio basically quadrupled from the bottom to 2015.
    My plan has been to have 3-4 years of expenses in non-equities. This post has led me to consider that at a time without income I should have a longer time span protected, and that real estate equity can’t be used as it would drop as well.
    May actually take 6 years of living out of equity. At which point a market drop would not matter.

  11. What about dollar cost averaging? Am I dumb to keep investing in my 401k every pay period no matter what the market is doing because I have a 30+ years til retirement? And there are also time horizon funds (I’m sure you already know) that readjust the holdings to more safer ones based on the year you plan to retire (e.g., TRRDX)

  12. I am still very young and just started accumulating my net worth. If the market collapse, that’s alright, I will buy more with whatever cash is available so that I can get back up with the quick gains. If I lose my job, then will find another job that pays me to buy more stocks. The mentality that we need to have is in the time of crisis is ‘be positive’ The world is not going to end! By the way, I just realized that my 99% of net worth is tied to stock market. Hahaha well. I may need to diversify… or not… :)

    Thanks for sharing!


    1. If you’re in your early 20s, it’s normal to be have a majority of your NW in one asset class. You might actually be relatively better off than your peers who might be simply holding cash all these years. But I would suggest aggressively thinking about diversifying assets now. Here is my latest passive income portfolio to provide some ideas.

  13. No offense Sam, but you have no way of knowing if the market is going up or down next year. I watch all the financial shows and read many financial blogs. For every 10 guys who say sell I can find 10 more who say buy.

    My thinking is that the stock market is a wonderful wealth building tool over a long period of time. If people need this money for living expenses in a minimum of 5 years, ‘Personally I use a 10 year rule” they shouldn’t be in the market.

    For the vast majority of people setting up a automatic investment in a index fund and reinvesting your dividends is the way to go. You’ll never miss a downturn but on the flipside you’ll never miss a rebound.

    P.S. The articles of late have been great. Whether I agree with you or not, they have been very thought provoking for me!

    1. Absolutely. Who knows exactly what the market will do in the future. We can only make educated guesses based on what we know, what we have, and what our needs are. A “10 year rule” is fine, as that is the rule I use to buy real estate. 10 years minimum to forever ideally.

      Main points of this article:

      * Be honest with your risk tolerance. Many people were not, which is why they sold during downturns.
      * Invest/risk only the capital you are willing to lose 50% in
      * Dial down risk the closer you are to “Enough Money”
      * Understand that downturns can last for years, and often correct by way more than 10%
      * Understand your own liquidity needs

      1. Perfect distillation of points and very good points indeed. Even though I (and I suspect many) “intellectually” know all these things it really helps to have them in bullet points in front of my face to read again and again and hopefully take action in kind. Thanks “Sam I am” (if you don’t know the reference ask Ted Cruz, he is apparently a fan, although he clearly doesn’t understand the underlying meaning of the tale).

        1. I agree that on one really knows what the market will do in any given year. However, by all metrics US stocks are highly valued. This makes the probability higher of lower than average returns on US stocks and unexpected shocks could lead to a lower market which I would view as good news. The metrics for international stocks are now better after several years of underperformance. IMO – at least 25% of your equities should be in Intl stocks. I used a cheap index fund to gain this exposure. No idea if they will outperform US stocks next year. I do believe in reversion to the mean so I think the probability of that is getting higher.

  14. I think you need another option for your poll. I’m not necessarily willing to gamble but I’m not going to sell into a market drop. Realistically though, to believe the stock market in general is going to go to zero just isn’t logical. Maybe an individual company (stock) might go out of business, but that’s why you need to be diversified.

  15. Depends a lot on whether you pre or post retirement. I’m about 10 years away so a bear market suits me fine, everything is on sale. currently XEI-TSX is down about 16% while my US fund is up around 10% so soon I’ll be re-balancing

    Buy low Sell High

    1. If you’re only 10 years away from a bear market, I would say a bear market does NOT suit you fine. You’re cutting it close due to 7 year bull market cycles, and 2-3 year bear market cycles.

  16. We have a little over 50% invested in the stock market. 35% is in real estate and about 15% in bond and other alternative. That seems like a pretty good balance. We’re a bit low on cash right now and we should hoard the cash more next year. Thanks for the reminder.
    I have gotten more conservative overtime. When I first started investing I was 100% in the stock market. In recent years, the real estate investment increased and that provided some diversity. You’re right that if the economy crater, everything will drop.

  17. I have been investing for more than 20 years. Currently, I have roughly 58% in equities. Of that, about 80 percent is in index funds. I have an active fund and just bought 2 equites for income. One is a closed end high yield fund and the other a publicly traded REIT. In the last year, I have slowly implemented a 7% position in private real estate through a crowdfunding site. I have 22 investments.

    The rest is cash/cash equivalents. I treat the mutual funds like long term investments except that I peel back 5 to 10 percent when I think the market is highly valued (like now) and invest it at a better entry point (like the Ebola scare).

    If the market was to drop 50 percent, then I would increase my position. For my long term investments that are not income oriented, I actually have written an investment policy statement. The first item on the list is to not panic sell!

    As I develop an income stream, I think it should relieve some of that temptation.

    1. It’s good to have 42% in cash/cash equivalents during a downturn! I’m way too like at closer to 10%. I plan to raise the percent to 20% over the next 12 months.

      I strongly believe we are going sideways to down over the next 12-24 months. There’s no hurry to buy anything. There’s only a hurry to save imo.

  18. What percentage of current income are you investing in the market right now? Is this a good time to save more cash and invest less in the market than you might otherwise (maybe bringing the total amount of market exposure down from 30% for a while)? I’m feeling like, outside of maxing my 401k plus some 529 contributions, I just want to save cash ….

    1. Based on my investing game plan, I regularly invest $5K – $20K/month depending on what opportunities I see, and will invest extra tranches if something really comes up, like the NetFlix note offering a 14% yield with 35% downside.

      As for percentages, it’s anywhere from 10% – 100% a month. If 10%, then 90% goes to cash. I’m very focused on saving cash now. Actually, I just recently sold six figures worth of index fund stock to just hold cash.

  19. Okay, I officially think I need to start a website called Financial Samurai +6! Sam, you have essentially followed my same trajectory with respect to fiscal philosophy : ) Since I crossed my “number” I’ve been on average 25%~40% correlated to the market depending on the snapshot in time. No need for home runs anymore, just don’t screw up. As your net worth increases you also have exposure to different types of investments that can further diversify your net worth. It is an interesting debate between the whole 4% rule and risk tolerance, some people are 100% correlated and sleep well at night. The FIREcalcs are interesting but like everything should be taken with a grain of salt. Oh and Sam, if you’d like to know what & how you will be thinking financially in 2016 and beyond I’d be happy to divulge for a nominal fee lol.

  20. I think at a certain point in $ amount or age the idea of growth switches too, how do I save my principal from taking a hit…

  21. Love the chart. 10 years after every major crash is always up. 2019 should be great. Confirms, things for me. Thanks.

  22. Its good that you highlighted the psychology of most of us worker/investors. A cheap stock market can sound like a bargain but there is much more going on.

    I had always wished for a good buying opportunity in the stock market. Then when 2008 came, I was worried about my job, my family, and having enough savings to weather unemployment. Rather than buying cheap, I began to horde cash trying to save more than the recommended 3-6 months. I didn’t sell in the down market, but only added slightly to my portfolio.

  23. Hey Sam-

    I started seriously investing in 2012 and often think about how different my attitude toward the market would be if I had started in 2005 (few good years then boom!). I also often think about my net worth and then try to already remove 25% of it because of the very real possibility of a crash. Unless you are sitting in cash, I feel like you should think of “worst-case” financial planning scenarios so you can always be prepared…granted at some point there is a diminished marginal utility to having an extra dollar.

    I will point out your comment about a couple who loses 600k – “you’ve pretty much screwed yourself out of ever living off a $2 million portfolio” – doesn’t really make sense to me. In the case of 2008, if someone ended up with 1.4M after the significant downturn, they would now have well over 2M assuming they never touched the account. I do think your general point is very true – that losing 30% of a couple hundred thousand is not the same as losing 30% of a couple million. I think about that often :-)

    1. Hi Dave,

      Yes, if the couple held on for 5-7 years after the crisis, they’d be OK. But that’s the point… if you’ve spent 40 years accumulating a $2M retirement fund and it goes down to $1.4M in just one year, chances are high there will be some type of capitulation since you’re in your mid-60s already and can’t afford to lose it all. As we saw in the last downturn, the -30% turned into -50%+!.

      There needs to be a gradual and smartly planned de-risking strategy over the course of our lives.

      1. Adam @

        The closer to retirement, the more important the change in asset mix gets. Unless your savings are so substantial you never plan to tap those stock holdings (live on dividends or rents, etc), most people over 55-65 can’t handle a 50% drop.

    2. If I may add to Sam’s point, as someone who has watched the destruction of wealth happen twice with 50% S&P500 decline in 2000/1/2 and again 57% in 2007/8/9, the kind of magical thinking (i.e. “they would be back to 2mm if they never touched it”) is something I have to remark upon. Point of information, the Nikkei 225 (Japan’s stock market) is nominally half what it was in 1989, 26 years ago. There is nothing special about the U.S. equity market, other than the fact that the businesses listed trade and operate in the (for now) strongest currency in the world and the U.S. (for now) hasn’t been physically destroyed by a war.

      First, the S&P500 declined 57% in 2007/8/9, so that $1,400,000 would have been $3,255,814 in 2006. It also would have been worth $3,200,000 in 2000, and not touching it for 10 years for a negative real return after inflation.

      Second, the S&P500 has returned less than 4% annually compounded over the last 16 years, and that includes a reinvestment of dividends. Take away dividends, and it is less than 2% annually. Read that again.

      Third, all the things we seem to “know” about the stock market and equities is only in the rear-view mirror. If you retired with $2,000,000 in 2000 and planned to life off a 4% withdrawal rate, your draw would have to decline from $80,000/year to $33,000 in just 3 years and you would have $820,000 left to live on for the rest of your life. Does this seem like a risk that would be acceptable to you? Keep “living” off 4% while the market recovers into 2006/7, and then dips again 2007/8/9, and you have about $540,000 left in 2009. Ten years prior, you had $2mm. How does that feel?

      I don’t want to crap on anyone’s enthusiasm for investing, saving, planning, eliminating debt, and all that other fun stuff. But keep in mind that when you are young, have decades ahead to work, save and dream, things look quite a bit different than when you reach what you think is FI/RE and the world burns.:-)

        1. 50% of my capital is in munis & cds, the other 50% is split between spy, sdy, reits , energy and other dividend aristocrat stocks. I never sold anything in any downturn. I wasn’t thrilled watching the decline, but panic would have destroyed me. I just live off a portion of the dividend and interest. My withdrawal rate is about 2% of assets. What would be wrong with that going forward?

      1. If I had $2 million in equities, I’d adjust my lifestyle to live off dividends and not touch the principal at all.

        1. Jim, did you read my comment, above? If you retired with $2,000,000 in 2000 and planned to life off a 4% withdrawal rate, your draw would have to decline from $80,000/year to $33,000 in just 3 years and you would have $820,000 left to live on for the rest of your life. Does this seem like a risk that would be acceptable to you? Did you understand it? Replace the 4% with whatever you predict dividends will return, and what do you think?

          S&P 500 dividends are 2%. Do you understand that $2mm with a 50% decline is $1mm? And would throw off a $20,000/year dividend? Just curious, how old are you now? How much do you earn, what is your NW, and how much does your lifestyle cost now? What is your investing experience, and when do you see your NW hitting $2mm?

          1. I never mentioned a 4% withdrawal rate!

            I’m retired, I’ve hit my NW target, my dividends exceed my expense requirements.

            When the market drops, many blue chip companies do not reduce dividends so your income doesn’t change much.

          2. Right, Jim, so what is your Dividend Rate? What is your NW? You are retired, and you don’t have $2mm (or you would have said so), so what are your “expense requirements”? My guess is you are heavily reliant on S.S. or have a cushy govt. pension. Dividend based ETFs pay 3.6% dividend (at most), and you are wrong about Blue Chip stocks; they may pay the same PERCENTAGE dividend, but 3.6% of a fund that has been halved by a 50% decline still pays only half of the dividend payout you were expecting.

            How do you explain your retirement in your current numbers? btw, you should think about writing up a ‘guest post’, as Financial Samurai would love to post it (and any worthy submittals) as it comes from a reader.

            1. Lighten up!

              I never said you were wrong, I simply said what I would with $2 million.

              I don’t hold funds. I hold roughly an equal dollar amount of many blue chip dividend stocks. They each pay a specific amount per share regardless of their stock price. Many are “dividend aristocrats”, companies that have raised their dividends for over 25 consecutive years. My dividend yield is 3.5%.

              I see no need to throw my NW number all over the web. Think whatever you like.


            2. Dividends are stickier than you’d expect. I couldn’t find the chart in nominal dollars but this is in real dollars and you can see the S&P has done a pretty good job at growing dividends in real terms over time. (30% reduction on 2009/10 may have hurt though) Blue chips probably were more resilient to holding their dividends steady as well. But how many people wouldn’t be spooked by that market decline and sell.

              That being said anybody relying on the income of a portfolio for survival and also with the hope of maintaining purchasing power shouldn’t be 100% invested in equities. The average endowment is ~40% equities for example.

        1. Thank you, Sean. My belief is that quite a few FS readers look forward to my comments, in the same way that they watch a Ron Howard movie and get excited when they see a close shot of Clint Howard wearing a headset in the control center.

      2. Jay, Japan is a small homogeneous population & I don’t think you can readily compare our two cultures, nor our economies. I would also submit that if your are smart with equities you will be invested in either good diversified Dividend Aristocrats Portfolio weighted towards the Consumer Staple Sector and reinvesting the Dividends during the downturns while living off the Dividends as a Retiree and not selling Shares at all unless something goes fundamentally wrong with the Company. This takes a certain Breed of Cat, but it does work. Otherwise a good low cost passive fund with an allocation to Cash & Short Term Treasuries to ride out the inevitable Crashes.
        Their really is no other way as far as I know. When the Market Crashes it will take the RE Market out as well. I’m not a RE Guy, but owning enatl Property is a sound strategy as well. I do own REITs in my Tax Defered Accounts.
        Right now the Market is very expensive by all Historical Measurments such as the Total Mkt Cap/GDP & the PE10 (Shiller PE). I’m sitting at about >40% Cash & waiting for this Puppy to roll over. I haven’t sold anything but I don’t really buy too much at these levels either, except for adding to my BP, BBL & RDS Positions. YMMV.

  24. I completely agree that everyone invested in stocks should be ready to lose 50%+ for around a decade. You hit the nail on the head here: “Those who are unwilling to lose 50% of their capital will inevitably panic sell and miss a likely rebound.”

    I am young (26) with no dependents to support. Currently my living expenses are low enough that I could invest during market panics (like the mini-panic we had in August-October 2015) with a lot of confidence. Even if the economy goes into full recession mode and my job in at risk, the worst case does not involve me needing any of my stock money, so I will keep investing the maximum I can during market drops as outlined in your ‘investing game plan‘ article. A small amount of cash savings would float me for 3-6 months and the unemployment benefit is 3x my expenses anyways! The absolute worst case scenario is to move in with my local parents until I find a new source of income. Having a good family life can save you a lot of heartache and money in emergencies.

    That said, I can already feel myself getting more conservative! I am very heavily invested in stocks and leveraged real estate, so I am slowly transitioning to ‘safer’ investments over the next 5 years. I am a huge fan of real estate and love the leverage now, but I am toying with the idea of using paid off rentals as a ‘safer’ investment—rent tends to be sticky and not fall as fast as the home value during a recession.

    1. It really is good to be young and have low expenses. And I do hope you don’t lose your job and can keep contributing to your investments during the worst of times.

      At 26, I would use a portion of my investable assets (~10%) to be aggressively hunting for unicorns. You never know what investment might give you that catalyst boost!

      1. I love a unicorn hunt ever since I got a couple lucky 100%+ returns in 2015. I keep your advice in the back of my mind though “everyone thinks they are a genius in a bull market”, so not getting too cocky and keeping it around 10% of net worth sounds like a good plan. Losing $10k-$20k doesn’t hurt too bad if you’re saving $40-50k every year. And so far the unicorn hunt has turned out way positive.

  25. I’m in my late 30s and definitely have lower risk tolerance now compare to my 20s since I’ve accumulated what I have mainly through upper middle class wage savings and investing. However, if I had FU money(over $10mil for me) as in your previous post, then I wouldn’t really bother with investing that much and just put a decent chunk in telecom stocks to get the fat dividend and put the rest in savings.

    1. That AT&T dividend yield does look juicy. But even telecom stocks go down too. What about 100% in tax free, fiscally strong county/state muni bond fund yielding 2.5% or CDs w/ your $10 million?

      1. Instead of a big chunk in telecoms, I’d suggest equal dollar amounts in each of the “Dividend Aristocrats” yielding >2.8% and maybe a few utilities.

        You’d basically be your own dividend mutual fund/etf.

  26. Ideally we would all trust statistics that tell us a 70%/30% stock/bond ratio is the best way to go. Sadly our gut feeling sometimes tells us otherwise. I’m going the Cartesian way and I’ll be trusting the statistics, and I might change my mind once I become wealthy enough that the losses will be huge compared to my income, as you mentioned.

  27. Since I am an early retiree living off of my portfolio I totally agree with your comment about having a lower risk tolerance than when I was working toward FI. Being debt and mortgage free means my expense footprint is small so I have a bucket strategy with probably a little more cash than most to fund my retirement a few years in my bucket #1. If the market didn’t rise in that time before I needed to hit the bucket #2 investments to replenish #1 I would be hating life so I do have an overall diversified bond/stock portfolio but the last recession showed us that all asset classes can take a dump regardless of diversification. There is no guarantees in investing or in life. You are right though, reassess and understand your risk tolerance and invest accordingly.

  28. I’ve never been a high-risk investor, but my risk tolerance has become more conservative as I’ve gotten older. I stayed long during the last downturn. It really sucked to see the decline in performance in my accounts, but I didn’t want to realize those losses so I held on. I guess it helps that I don’t look at my investment accounts every day. Being a bit hands off helps minimize the urge to sell when the market gets dicey. It wouldn’t surprise me if 2016 is pretty flat to down. Even though SF feels crazier and more crowded than ever, it does feel like growth is slowing down.

    1. It’s easier not to look at your investment accounts if you own index funds and ETFs. If you own individual stocks, you’ve got to monitor them. The swings can be amazing from quarter to quarter and year to year!

      1. Adam @

        Very true. Everybody should be reading the quarterly reports on their individual stock holdings and monitoring the news just enough for catastrophic events (like BP oil spill).

  29. Great post, one of the greatest ways to maintain wealth is not selling at the bottom!

    Did some re-allocating away from equities over the past year but currently am sitting around 15%, split between US and International equities fairly evenly. I’m surprised my 11-20% weighting is by far on the low side of the poll. I wonder if some people are excluding real estate when answering. I also wonder what a typical allocation to fixed income is.

    1. 11-20% weighting in public equities definitely is on the low side. What else is your net worth composed of? Most Americans have either 80%+ of their net worth tied in their primary residence, or in stocks. That’s why the housing crisis was so devastating to the middle class.

      1. Real Estate and Fixed Income, boring I know. ~10% other stuff for fun, p2p lending, btc, metals,etc.

  30. I imagine that risk tolerance would change drastically according to what your overall financial picture is. If most of my assets were in the stock market, and if I relied on that income to survive on a day-to-day basis, I am sure that my risk tolerance in the stock market would be very low. But as things stand for me now, where I earn 80% of my income from my well-paying job, and most of the remaining 20% from rental real estate investments, I’m just not that worried about the 7.5% of my net worth that is tied up in the stock market. (I am contributing to my stock investment accounts, so they will be growing to become a larger percentage of my net worth in the future.)

    Some people I know are too gun-shy about the stock market to consider it as a serious investment alternative. I can see their point, but after surviving the tech stock crash in 2000-01 and the more recent crash in 2008-09, I’m confident that the numbers will eventually come back. And by adding to my positions in small increments all along, I have done better.

    Like you point out, though, it’s different when there’s a small amount of money at stake ($100k for me), versus millions of dollars. It’s also different as we all get closer to retirement age, of course, because then we will have less flexibility about market timing and waiting for the market to recover from a crash.
    If I were in your position, I would probably tend toward cash hoarding and/or real estate with low leveraging, too.

  31. I am sitting on $1.25 million in cash because we relocated earlier this year and sold our home. We are now in an area where the housing turnover is low and we are not sure if we really want to buy anything at this point. We took the cash and put it into CD’s laddered over 5 years. That gives us some options. If we get greater clarity on the real estate, we could always buy, yet if the market drops, we could take advantage of that ituation as well. With retirement and other funds, we still have a couple million in the market and I have no plans to touch that for a long time, so we could easily ride out a big drop.

    In the short term, I have about $300k in payouts coming over the next 6 months, so I do have to make some decisions around that cash.

    1. Steve Adams

      Surely RE will go back on sale in the next 3 years. If there is a big stock market drop that seems to help drive RE down. I’m holding cash for stock or RE sales. Like an unscheduled Black Friday sale.

  32. This is where simplifying lifestyle and reducing debt are huge (along with an emergency fund). At that point, even a job loss wouldn’t necessarily require dipping into savings. When you are financially independent it should be even easier to avoid trouble. All that being said, strategies like the Permanent Portfolio that diversify away from stocks (without losing much return or CAGR) can help smooth out the down years even more than the traditional bond route.

  33. Dividend Growth Investor

    Well, there has been a “stealth bear market”, where only a handful of companies in the S&P 500 have been propping the averages up ( reminds me of 1999 – 2000). If you look at energy, rails, foreign stocks, these have not done well this year ( or since the summer of 2014 to be exact). If those FANG tech stocks experience a hiccup at their inflated valuations, I would not be surprised if S&P 500 goes down in 2016 ( I also read a lot of cheery new index investors who say they plan on being 100% in stocks)

    I remember 2007,2008 and 2009. When you put money to work, and the stock goes down from there, it is a scary feeling (you ask yourself if you have missed something). The 7 – 8 year bull market definitely has made a lot of us feel like we are invincible. I do like your idea of asset protection when you have “made it” or have “enough”. You only need to get rich once in life.

    I am also expecting some slowdown, which is why I actually have a plan to boost fixed income to 3 – 4 – 5 years annual expenses. I am currently at 19 – 25 times annual expenses, most of which is in the stock market. (translates into something like 15% – 20% allocation to fixed income)

    The cash dividend income covers 8 – 10 months worth of expenses.

    I expect to be able to save 15 – 20 months worth of expenses in 2016. Ability to earn income to live and save is a very important asset to have in a downturn.

    In the event I am wrong, the stock allocation will do the heavy lifting anyways. If I am right, the fixed income will be helpful to put money to work.

  34. Having gone through the internet bubble and financial crisis, I agree that it is difficult to add more money in the stock market when everything around you seems to be collapsing. I didn’t panic and sell any stocks in my taxable accounts, but couldn’t get myself to add. The only place where I kept adding was my 401K since that is on autopilot at work.

    During the financial crisis, both my stocks and house took deep dives and companies in silicon valley were laying off or freezing wages. So from a psychological stand point, my first instinct was to preserve cash, not buy more stock even though in hindsight, this was the best move.


  35. I am willing to ride it out knowing that I can provide current income and keep investing the entire way down and hopefully even more once we know it is on the way back up. I am definitely over invested in the market, but I am willing to take the risk.

  36. I think the psychological impact of seeing the dollar amount has a much greater effect than the percentage. Most people think they can stomach a 10% drop or a 20% drop, but seeing the value of your portfolio drop by the value of a car is something much different than percentages, which have no comparison in real life.

    I know my risk tolerance is pretty low but I counter it by not checking things often. I was able to keep my cool during the Great Recession, which only lasted a few years, because I stopped checking and because I knew this was money I didn’t want to touch for many years. Before that, I wasn’t sure if I could keep my cool.

    I like the term Slaughter Rule though, 50% sounds brutal but we’ve seen it in twice now in our lifetime! With the S&P, March 2000 to October 2002 (1500->800) and then again Oct 2007 to March 2009 (1500->680).

  37. These are fantastic points and your advice is spot-on. I started my first grown-up job in August 2008. That experience — of seemingly endless stock market declines, job losses, declining home prices and sales, etc — was frightening but invaluable. It’s easy to muse about what you’ll do in a serious market downturn, but having lived through one in real-time, you understand it’s not so simple. The end is never in sight. A stock market correction looks like one giant, falling knife. Any desire to take risk will likely be eclipsed by job/income insecurity. Cash truly becomes king.

  38. If things start to dive to the bottom I will just wait. The market always goes up again. I am starting to keep some money outside of the market but if there is a sharp dive I will probably move more in.

    1. I will never sell my index funds due to a market drop. I will just sit back like you and say to myself “well this sucks, guess I will just wait it out like always”. If the index is broad, then I agree with you and the market will come back up.

      Individual stocks are a whole different ball game. I won’t sell just because the stock price fell, but if there is some fundamental problems developing with the company, you can’t just wait it out and hope the price recovers. Sam hit the nail on the head here: “If Apple’s earnings are down by 50% and AAPL shares are also down by 50%, Apple is NOT on sale.”

    2. Pretty much this. Don’t understand some of the points in this article.

      The market always goes back up. Like, ALWAYS

      1. Ron, did you know that the FTSE is where it was in April 1998? And the Nikkei is less than half of where it was in 1989? Do you think you would have done better with stocks or CDs in the past 16 years?

        What points don’t you understand in the article? Are you interested in understanding the points, or do you know everything you are going to need to know going forward?
        What is your investing background and how long have you been investing? I am curious, because your comment was exactly what I heard from several people in 2000 and they had your level of confidence and commitment and knowledge.

        1. Steve Adams

          Yep. Over the 15 so years of my investing life pretty weak total returns. Much better investing in private businesses. Also gonna add some more RE as these P/E ratios aren’t very impressive.

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