Retiring in Risky Times Requires Protection from a Volatile Market and Interest Rates

We’re starting to hear that ugly “r” word again – recession. It’s not officially here yet, and hopefully it won’t happen, but the possibility is permeating the media.

For those hoping to retire soon, or those who recently did, the word “recession” can cause apprehension. While we aren’t in a 2008-like meltdown situation, when the global financial crisis pushed the U.S. into recession, we deal with numerous negative factors that affect our economy and many retirement plans. These include rising inflation, rising interest rates to combat inflation, a global pandemic that won’t go away, Russia’s invasion of Ukraine, and the likelihood of higher taxes down the road.

Back in 2008, people near retirement had to make financial adjustments to secure the fixed income they would depend on. Now the scenario is similar as another wave of retirees face concerns about safeguarding their finances.

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But fear not: Retiring in a recession or in economic times that cause concern on many fronts can be done. If you’re planning to retire soon or you’re in the early stages of retirement, here are some key points to consider and options to protect your money:

2 Ways to Protect Yourself from Market Risk in Retirement

An indexing strategy can help you counter your risk during a stock market downturn. The idea is to put some of your money in accounts not affected by a market decline and draw from those accounts in your first few years of retirement. Two vehicles that reduce market risk are indexed universal life insurance (IUL) and a fixed index annuity.

Indexed universal life is a type of permanent life insurance with a cash-value component and a death benefit that your beneficiaries will receive tax-free. The money in your cash-value account can earn interest based on the performance of a stock market index chosen by your insurer, such as the S&P 500 or the Nasdaq Composite. But unlike investing directly in an index fund, you won’t lose money when the market falls. That’s because a guarantee applies to your principal, insuring it against losses.

The catch is there’s usually a cap on the maximum return you can earn. Also, IUL policies can come with numerous fees and other costs. On the positive side, IULs have unlimited contributions, tax-free growth and tax-free distributions.

Fixed index annuities also offer growth potential while protecting your principal from market volatility. Potential for additional interest is linked to the return of a market index, such as the S&P 500. The interest rate is guaranteed to never be less than zero, even if the market index goes down. But like with indexed universal life insurance, these investments limit how much you can earn with caps.

Fixed index annuities offer a steady stream of income and tax-deferred growth; taxes are not owed until a withdrawal is made. It’s important to know, though, that once you purchase an annuity, you’re locked into it for a certain number of years, and if you withdraw money during that surrender charge period, you’ll be subject to a surrender fee. Usually you can withdraw up to 10% each year without surrender charges.

A Few Possible Antidotes to Rising Interest Rates

Traditionally, a safer asset would be bonds, but rising interest rates mean bonds will likely lose value. While higher rates bring hope of getting more out of certificates of deposit and other short-term savings, there’s concern that investments in the bond market will keep declining, making yields on fixed income holdings disappointing.

There are several things you can do while pursuing your retirement goals in this rising-rate environment:

• Shorten your bond duration. The longer a bond’s duration, the more sensitive it will be to interest rate hikes, and the more its price will decline.
• Get your debt under control. Rising interest rates mean the cost of being in debt will increase. Getting your debts paid off can keep you in control of more of your income.
• Consider stocks that aren’t rate-sensitive. Rising interest rates can make it more expensive to take out loans and use credit, which may impact consumer behavior. This can push down the value of stocks reliant on consumer borrowing, such as automobiles, apparel and durable goods. In contrast, non-discretionary spending sectors, such as energy, utilities and food, are more likely to hold their own in a rising-rate environment because they’re essential.

While retiring in uncertain economic times or during a recession can be stressful, being proactive and planning for the above factors can help reduce your worry. A comprehensive financial plan is important no matter your stage in life. A plan carries even more weight when you’re nearing retirement during a challenging economy.

Dan Dunkin contributed to this article.