What Is Sequence of Returns Risk?
Sequence of returns risk is an important consideration for people entering retirement because the order in which investment returns occur can affect how long retirement savings may last. Two retirees could have portfolios with the same average long-term return but experience very different outcomes if one experiences significant losses early in retirement while the other experiences those losses later.
Why Timing Matters
During your working years, you may be contributing money to your retirement accounts when markets decline. In retirement, however, you may be withdrawing money to help cover your c.
If a significant market decline happens early in retirement while you're also withdrawing funds, your portfolio may have fewer assets available to participate in a future recovery.
A Simple Example
Imagine someone retires with $500,000 invested. If the market experiences a significant decline shortly after retirement, the value of the portfolio could fall substantially. If the retiree continues taking withdrawals during that period, the portfolio may have less money available when markets eventually recover. Another retiree with the same starting portfolio might experience strong returns during the early years of retirement and encounter market losses later. Even if both retirees experience similar average returns over time, their ending portfolio values could be very different.
How Retirees May Prepare
No strategy can eliminate market risk, but retirees can consider ways to reduce their reliance on investment withdrawals during market downturns. Depending on their circumstances, this might include maintaining cash reserves, diversifying investments, adjusting withdrawal strategies, or creating additional sources of predictable income.
Some retirees may also consider certain annuity products that offer guaranteed income features, subject to contract terms and the claims-paying ability of the issuing insurance company.
Final Thoughts
According to Investor.gov, diversification can help manage investment risk, although it cannot eliminate the possibility of losses. Understanding sequence of returns risk can help retirees recognize why retirement planning involves more than simply looking at an investment portfolio's average return. Preparing for different market conditions and having a strategy for generating income can be important parts of a long-term retirement plan.
Educational Disclosure
This material is for educational purposes only and is not financial, investment, tax, or legal advice. Investing involves risk, including possible loss of principal. Annuity guarantees are backed solely by the claims-paying ability of the issuing insurance company. Consult a qualified financial professional regarding your individual circumstances.
