Bear MarketIt’s a slow and lingering death, but cheer up. It’s painful, too.

That sums up the current mood just about everywhere. So at the risk of sounding like a close relative of Dr. Pangloss--- the character in Voltaire’s “Candide” who routinely declared this was “the best of all possible worlds”--- this column, and some to follow, will be perversely devoted to the positive.

Believe it or not, we might live through this.

And there are some opportunities out there.

Let’s start with how much retirees can spend. Here, research shows the global decline of stock prices isn’t nearly as devastating as it first appears.

This isn’t what the conventional wisdom tells us. The CW would tell us that the older you are, the more devastating any loss. Why? Because the recovery time is short. People in their 30s, 40s, or 50s can rebuild their portfolio buying stocks at lower prices. As a result, they may benefit from a stock market crash.

A retiree, on the other hand, probably isn’t saving and must depend on the diminished value of his savings for income. Surely that’s bad news.

It is, but as I showed in an earlier column, it’s not nearly as bad as it seems.

How can that be? You can understand by following a trail of research.

About 20 years ago, Minneapolis institutional researcher and mutual fund manager Steven Leuthold looked beyond average stock returns. Instead, he examined stock market returns starting from different valuation levels. When stocks were in the highest decile of valuation, he found, their average return over the next five years was a decline of 1.3 percent annually. At the other extreme, when stocks were in the lowest decile of valuation, they returned an average 19.3 percent over the next five years.

Big difference.

At more typical valuation levels future returns were closer to the more familiar historical averages. When stocks were valued at the 4th, 5th, or 6th decile their future returns ran from 9.4 percent to 10.8 percent.

So what’s the valuation level of stocks today? Leuthold’s analysis shows them to be on the cheap side, in the third decile. Historically, future returns from this level have averaged 14.1 percent. That would have stocks doubling in value over the next five years.

If prospective returns are higher in low valuation markets, perhaps retirees can safely increase their withdrawal rates. Research by financial planner Michael Kitces has shown that the usual 4 percent rule of thumb for initial withdrawal rates from retirement nest eggs can be increased in periods of low valuation. A typical 60/40 (equity/fixed income) portfolio, for instance, will only support a safe withdrawal rate of 4.4 percent in a high valuation market. But it will safely sustain a 5.7 percent withdrawal rate in a low valuation market.

Let’s see how that would work out in real money.

Suppose your retirement nest egg was worth $100,000 when you invested it the Vanguard Balanced Index fund early last year. Starting with the conventional withdrawal rate of 4 percent to 4.4 percent, you would have taken no more than $4,400 from your account during the year.

During 2008 your investment would have declined 22.2 percent, according to Morningstar. Subtract $4,400 in withdrawals as well and your new balance would be about $73,400.

So how much money can you withdraw in a new market at lower valuation? Try $4,184.

Your spending money, in other words, hardly fell.

As a practical matter, Mr. Kitces advises that people should withdraw at a 4.5 percent rate in most markets and raise the withdrawal rate to 5.5 percent in low valuation markets, so the loss in spending power would be a bit greater, about $469 a year instead of $316. Either way, the loss in spending power is a lot less than the loss in portfolio value.

But what about all that lost money? Why doesn’t the loss play straight through to how much you have to spend?

It doesn’t for a simple reason. We don’t live with the idea of spending all our money in the next year. We live as though we were going to be around for a while because, well, we probably will be.

On the web:

Sunday, December 5, 2008: Sometimes Down Is Up

The Kitces Report on Safe Withdrawal Rates