Your Retirement: What’s Luck Got to Do with It?
Running out of money is any retiree’s biggest fear. If you don’t want your retirement security to come down to dumb luck, you need to protect yourself from a risk that might be scarier than inflation or taxes: sequence of returns risk.
You are now subscribed
Your newsletter sign-up was successful
Want to add more newsletters?
Delivered daily
Kiplinger Today
Profit and prosper with the best of Kiplinger's advice on investing, taxes, retirement, personal finance and much more delivered daily. Smart money moves start here.
Sent five days a week
Kiplinger A Step Ahead
Get practical help to make better financial decisions in your everyday life, from spending to savings on top deals.
Delivered daily
Kiplinger Closing Bell
Get today's biggest financial and investing headlines delivered to your inbox every day the U.S. stock market is open.
Sent twice a week
Kiplinger Adviser Intel
Financial pros across the country share best practices and fresh tactics to preserve and grow your wealth.
Delivered weekly
Kiplinger Tax Tips
Trim your federal and state tax bills with practical tax-planning and tax-cutting strategies.
Sent twice a week
Kiplinger Retirement Tips
Your twice-a-week guide to planning and enjoying a financially secure and richly rewarding retirement
Sent bimonthly.
Kiplinger Adviser Angle
Insights for advisers, wealth managers and other financial professionals.
Sent twice a week
Kiplinger Investing Weekly
Your twice-a-week roundup of promising stocks, funds, companies and industries you should consider, ones you should avoid, and why.
Sent weekly for six weeks
Kiplinger Invest for Retirement
Your step-by-step six-part series on how to invest for retirement, from devising a successful strategy to exactly which investments to choose.
Dealing with the unpredictability of the markets can be a challenge for any investor. No one wants to see their portfolio diminished by a sudden dip or long-term downturn, no matter how young or old they might be or what their investment goals are. But for those who are near or new to retirement and planning to pull a portion of their income from their investments, a market decline can be especially devastating.
Remember, when you’re close to or in retirement, you have less time to recover from a big loss. And if you’re withdrawing money from a depleted retirement account — one you’re no longer contributing to — you risk running through your funds much faster than planned.
This nasty (and often overlooked) retirement threat is called “sequence of returns risk.” Essentially, it’s the possibility that fate could deal you a lousy hand just because you picked the wrong time to retire. If your stocks are at a low because of a correction or crash, and you’re forced to sell more shares to generate the same amount of income, you could significantly reduce the longevity of your portfolio.
From just $107.88 $24.99 for Kiplinger Personal Finance
Become a smarter, better informed investor. Subscribe from just $107.88 $24.99, plus get up to 4 Special Issues
Sign up for Kiplinger’s Free Newsletters
Profit and prosper with the best of expert advice on investing, taxes, retirement, personal finance and more - straight to your e-mail.
Profit and prosper with the best of expert advice - straight to your e-mail.
A Fateful Story of 2 Brothers
Compared to other big retirement risks, such as inflation, taxes and health care costs, sequence of returns risk doesn’t get much attention. But it can take out a chunk of your retirement savings that may be difficult to recoup.
Here’s an example:
Let’s say we have two brothers, George and James. Each retired with $1 million. And each decided to withdraw $60,000 annually from his account.
But even though George and James retired just three years apart, their portfolio balances look very different over time. Unfortunately for George (whose returns are shown below), he retired in 2000, just as the market was experiencing a significant downturn. And right out of the gate, he had some major losses — in 2000, 2001 and 2002. Though he averaged a 4.96% rate of return through the years, he never really recovered from those early losses. George ran out of money in year 15 of retirement.
George’s Returns
| YEAR | BOY Value | Earnings Rate | Interest earnings |
| 1 | $ 1,000,000.00 | -10.14% | $ (101,400.00) |
| 2 | $ 838,600.00 | -13.04% | $ (109,353.44) |
| 3 | $ 669,246.56 | -23.37% | $ (156,402.92) |
| 4 | $ 452,843.64 | 26.38% | $ 119,460.15 |
| 5 | $ 512,303.79 | 8.99% | $ 46,056.11 |
| 6 | $ 498,359.90 | 3.00% | $ 14,950.80 |
| 7 | $ 453,310.70 | 13.62% | $ 61,740.92 |
| 8 | $ 455,051.62 | 3.53% | $ 16,063.32 |
| 9 | $ 411,114.94 | -38.49% | $ (158,238.14) |
| 10 | $ 192,876.80 | 23.45% | $ 45,229.61 |
| 11 | $ 178,106.41 | 12.78% | $ 22,762.00 |
| 12 | $ 140,868.41 | 0.00% | $ - |
| 13 | $ 80,868.41 | 13.41% | $ 10,844.45 |
| 14 | $ 31,712.86 | 29.60% | $ 9,387.01 |
| 15 | $ - | 11.39% | $ - |
| 16 | $ - | -0.73% | $ - |
| 17 | $ - | 9.54% | $ - |
| 18 | $ - | 19.42% | $ - |
| Row 19 - Cell 0 | Row 19 - Cell 1 | Row 19 - Cell 2 | Row 19 - Cell 3 |
| Row 20 - Cell 0 | Average Return | 4.96% | Row 20 - Cell 3 |
James (whose returns are shown below) retired in 2003, and he got off to a much better start. James had the same 4.96% average rate of return as George, but because his losses came later in retirement, his portfolio held up quite well. In his 18th year of retirement, James still had $940,749.
James’ Returns
| YEAR | BOY Value | Earnings Rate | Interest earnings |
| 1 | $ 1,000,000.00 | 26.38% | $ 263,800.00 |
| 2 | $ 1,203,800.00 | 8.99% | $ 108,221.62 |
| 3 | $ 1,252,021.62 | 3.00% | $ 37,560.65 |
| 4 | $ 1,229,582.27 | 13.62% | $ 167,469.10 |
| 5 | $ 1,337,051.37 | 3.53% | $ 47,197.91 |
| 6 | $ 1,324,249.29 | -38.49% | $ (509,703.55) |
| 7 | $ 754,545.74 | 23.45% | $ 176,940.98 |
| 8 | $ 871,486.71 | 12.78% | $ 111,376.00 |
| 9 | $ 922,862.71 | 0.00% | $ - |
| 10 | $ 862,862.71 | 13.41% | $ 115,709.89 |
| 11 | $ 918,572.60 | 29.60% | $ 271,897.49 |
| 12 | $ 1,130,470.09 | 11.39% | $ 128,760.54 |
| 13 | $ 1,199,230.64 | -0.73% | $ (8,754.38) |
| 14 | $ 1,130,476.25 | 9.54% | $ 107,847.43 |
| 15 | $ 1,178,323.69 | 19.42% | $ 228,830.46 |
| 16 | $ 1,347,154.15 | -10.14% | $ (136,601.43) |
| 17 | $ 1,150,552.72 | -13.04% | $ (150,032.07) |
| 18 | $ 940,520.64 | -23.37% | $ (219,799.67) |
| Row 19 - Cell 0 | Row 19 - Cell 1 | Row 19 - Cell 2 | Row 19 - Cell 3 |
| Row 20 - Cell 0 | Average Return | 4.96% | Row 20 - Cell 3 |
That’s the impact the wrong sequence of returns can have on a retirement account.
Unfortunately, there’s no way to predict what the stock market will do tomorrow, much less in a few years. So, trying to time your retirement date to avoid an early loss isn’t a viable strategy. There are things you can do, however, to try to avoid or reduce potential damage from sequence of returns risk:
Reduce your exposure to volatility
It’s not unusual to become a bit of a statement stalker as retirement nears — checking your portfolio’s performance regularly and celebrating every time your balance gets a boost. Obviously, it’s tempting to stick with a riskier portfolio mix when you’re seeing positive results. But it’s also important to be aware of what could happen if you fail to protect the money you have. As Warren Buffett once said, “The single greatest way to compound capital is to avoid large losses.”
As you move closer to retirement, your financial adviser can help you create a more diversified mix of stocks, bonds and other investments based on your goals, how much you’ve saved, and your tolerance for risk. (If the person handling your portfolio pushes back when you talk about protecting your future income, it might be time to look for an adviser who is a retirement specialist. Investing for decumulation is very different from investing for accumulation.)
Rethink your withdrawal strategy
You may have heard of the “4% Rule,” which asserts that retirees can reduce their risk of running out of money by withdrawing a steady 4% from their portfolio each year, adjusted for inflation. However, many financial experts have cautioned that the 4% rate, which is based on research that’s about three decades old, is no longer appropriate for modern investors in a low-interest environment. You may want to create a withdrawal plan that’s more personalized and/or flexible.
Look at income-producing investments
If you’re planning to use your investments to help create a retirement paycheck, you may want to switch at least a portion of your portfolio to reliable income producers. That could mean investing in dividend-paying stocks, annuities, bonds or even rental properties.
Pay down debt
If you can reduce credit card debt and pay off other financial obligations before you retire, you’ll have more flexibility when deciding how much you really need to withdraw from your accounts when the market is down.
Develop a bucket strategy
Another way to help ensure you have money for now and the future is to divide your savings and investments into three “buckets” that are designed to serve you in three phases of retirement — now, soon and later.
- Your “now” bucket would cover any living expenses — and larger emergency costs — you have in the first years of retirement. It could hold safe, easy-to-access investments, such as cash, cash equivalents and/or fixed-income investments.
- The “soon” bucket would set aside funds for a few years down the road. It would include some safer investments but also some equities for growth.
- The “later” bucket would cover your costs much later in retirement; and, if it’s a priority for you, it also can provide a legacy for your loved ones. Because it’s made for long-term growth, the later bucket could hold a higher percentage of equities, based on your personal risk tolerance.
You may find one or a combination of these strategies can help you improve your “luck” when it comes to dealing with sequence of returns risk.
Kim Franke-Folstad contributed to this article.
The appearances in Kiplinger were obtained through a PR program. The columnist received assistance from a public relations firm in preparing this piece for submission to Kiplinger.com. Kiplinger was not compensated in any way.
-
Quiz: Do You Know How to Avoid the "Medigap Trap?"Quiz Test your basic knowledge of the "Medigap Trap" in our quick quiz.
-
5 Top Tax-Efficient Mutual Funds for Smarter InvestingMutual funds are many things, but "tax-friendly" usually isn't one of them. These are the exceptions.
-
AI Sparks Existential Crisis for Software StocksThe Kiplinger Letter Fears that SaaS subscription software could be rendered obsolete by artificial intelligence make investors jittery.
-
Social Security Break-Even Math Is Helpful, But Don't Let It Dictate When You'll FileYour Social Security break-even age tells you how long you'd need to live for delaying to pay off, but shouldn't be the sole basis for deciding when to claim.
-
I'm an Opportunity Zone Pro: This Is How to Deliver Roth-Like Tax-Free Growth (Without Contribution Limits)Investors who combine Roth IRAs, the gold standard of tax-free savings, with qualified opportunity funds could enjoy decades of tax-free growth.
-
One of the Most Powerful Wealth-Building Moves a Woman Can Make: A Midcareer PivotIf it feels like you can't sustain what you're doing for the next 20 years, it's time for an honest look at what's draining you and what energizes you.
-
I'm a Wealth Adviser Obsessed With Mahjong: Here Are 8 Ways It Can Teach Us How to Manage Our MoneyThis increasingly popular Chinese game can teach us not only how to help manage our money but also how important it is to connect with other people.
-
Looking for a Financial Book That Won't Put Your Young Adult to Sleep? This One Makes 'Cents'"Wealth Your Way" by Cosmo DeStefano offers a highly accessible guide for young adults and their parents on building wealth through simple, consistent habits.
-
Global Uncertainty Has Investors Running Scared: This Is How Advisers Can Reassure ThemHow can advisers reassure clients nervous about their plans in an increasingly complex and rapidly changing world? This conversational framework provides the key.
-
I'm a Real Estate Investing Pro: This Is How to Use 1031 Exchanges to Scale Up Your Real Estate EmpireSmall rental properties can be excellent investments, but you can use 1031 exchanges to transition to commercial real estate for bigger wealth-building.
-
Should You Jump on the Roth Conversion Bandwagon? A Financial Adviser Weighs InRoth conversions are all the rage, but what works well for one household can cause financial strain for another. This is what you should consider before moving ahead.
