No matter how the market performs, investors assume a certain degree of risk every time they invest. Riding the highs and lows is easier when investors have a consistent source of income and generally, before retirement, investors should focus on the average annual return rate to get a clearer picture of how their portfolio is performing. However, in retirement, investors face an additional risk known as the sequence of returns (or sequence risk), which relates to the order and timing of withdrawals from your investment accounts.
With sequence-of-returns risk, timing matters
Being able to retire comfortably is a goal for many investors. When you no longer have a consistent paycheck to help with day-to-day living expenses or to contribute to your investment accounts, careful planning and projecting is important to maintain your desired lifestyle. Ideally, your investments in retirement provide continued income over time which will not only allow you to make the account withdrawals you need, but will also yield additional growth that can help offset those withdrawals or any potential losses that may occur during times of volatility.
Source: Blackrock | https://www.blackrock.com/us/individual/literature/investor-education/sequence-of-returns-one-pager-va-us.pdfBut if you are preparing to retire or have retired during a prolonged market downturn or bear market, you may experience a sequence risk, particularly if you’re making regular withdrawals from your retirement accounts and getting poor returns on your investments simultaneously.
When this happens, investors may have to sell assets in order to recover. Furthermore, it can be extremely difficult to recoup those losses even in a period of market growth because you have fewer assets. The end result leaves investors with fewer savings alternatives or investment growth opportunities sooner than they anticipated in their retirement.
Source: Blackrock | https://www.blackrock.com/us/individual/literature/investor-education/sequence-of-returns-one-pager-va-us.pdf
How to protect against sequence-of-returns risk
Taking losses can be scary for any investor, but it can feel particularly heavy for those in retirement who depend on that income. However, investors can utilize certain strategies to help if they find themselves experiencing sequence risk.
When investors are faced with sequence-of-returns risk, it can be easy to panic and sell off more than you need to in the moment. First, we will always recommend taking a long-term, proactive approach, remembering that being reactive can potentially make the situation worse.
Secondly, investors can help themselves by ensuring they have a diversified portfolio. If your portfolio skews more toward stocks, you may want to discuss with your financial advisor other options like bonds or liquid assets that can help offset losses.
You can also choose to withdraw a smaller amount from your accounts on a regular basis, helping you to conserve those funds over a longer period of time.
Account for sequence-of-returns risk with Chatterton and Associates
If you have questions or concerns about being preparing for retirement in a down market, we can help. Chatterton’s financial advisors will discuss your retirement goals and financial needs and run through different scenarios in order to help protect against market volatility and other unknowns.
The Team at Chatterton & Associates
Although the information has been gathered from sources believed to be reliable, it cannot be guaranteed. Federal tax laws are complex and subject to change. This information is not intended to be a substitute for specific individualized tax or legal advice. Neither Royal Alliance Associates, Inc nor its representatives provide tax or legal advice. As with all matters of a tax or legal nature, you should consult with your tax or legal counsel for advice.