Introduction
Today’s blog focuses on an essential concept every retiree and investor should grasp: the sequence of returns risk. It’s not just about the numbers; it’s about the timing. Dive in as we unwrap this intriguing financial puzzle.
What is the Sequence of Returns Risk?
Imagine it’s a hot summer day, and you’re counting on a specific sequence of ice cream flavors to make the perfect sundae. Just as you wouldn’t want your ice cream to melt before you get the toppings, in the world of retirement planning, you wouldn’t want poor market returns at the start of your retirement journey.
The sequence of returns risk essentially addresses the order and timing of investment returns. The danger lies in encountering poor market returns early in your retirement sequence. These downtrends, coupled with withdrawals from your IRA or 401k, can deplete your retirement savings faster than anticipated.
Accumulation vs. Distribution Phase
During the accumulation phase of life, when you’re still working, market fluctuations might seem inconsequential. Over time, market corrections average out, and many adopt the “set it and forget it” approach, believing the market always recovers. This perspective holds during the saving years.
However, in the distribution phase, when you’re pulling money out of your accounts, the math changes significantly. Tom illustrated with two hypothetical investors, both starting with $100,000. When they flipped their sequence of returns, both ended with the same balance after 24 years. But when they started drawing money in retirement, the one with poor returns early on ran out of funds by age 85, while the other thrived. The bottom line? Timing matters.
Mitigating the Sequence of Returns Risk
Delaying Social Security:
By pushing back your Social Security benefits, you can ensure a guaranteed return, preparing you for future uncertainties.
Fixed Rate Return Investments:
Multi-Year Guaranteed Annuities (MYGAs) are now offering over 5% guaranteed for several years, ensuring a known return without any downside risk.
Lifetime Income Annuities:
With fixed returns and a guaranteed lifetime payment, you’re insulated from poor market performances early in retirement.
Fixed Indexed Annuities:
These come with income riders, mirroring the benefits of option #3. The aim is to have income so secure that market fluctuations won’t affect your day-to-day life.
Securing your income from market volatility allows you to focus on enjoying retirement without constantly worrying about market performance. By mixing guaranteed products, you can relish the freedom of making investment choices without jeopardizing your essentials.
Always remember, the ultimate goal in retirement planning is not merely financial growth but securing a comfortable and stress-free retired life.
Sequence of Returns Risk
In today’s discussion, Hans and Tom shed light on the sequence of returns risk and its implications during retirement. It’s not just about the average return but the order in which these returns happen. The risk is particularly pronounced when poor market returns strike early in one’s retirement sequence.
