Sequence-of-Return Risk

Consider this hellish scenario: You retire with what you imagine is plenty of money—and you’re immediately hit with a brutal market decline, even as you pull out a growing sum from your portfolio each year to cover rising living expenses. This double drain quickly depletes your savings. A few years later, the markets bounce back. But you don’t benefit much because, by then, your portfolio has been whittled down by your need for spending money.

This is a key reason researchers have suggested a 4% withdrawal rate. In most financial situations imaginable, you should be able to withdraw that much initially, step up the annual sum withdrawn with inflation and still make your savings last through a 30-year retirement.

Problem is, a 4% withdrawal rate may not give you enough retirement income. Moreover, the whole premise seems a little absurd—that you would not simply withdraw the same sum each year, but robotically increase it along with inflation, no matter how terribly the financial markets perform.

What’s the alternative? You might initially spend closer to 5%. But if the markets turn against you, you should stand ready to slash your portfolio withdrawals.

Next: Varying Your Spending

Previous: Four Percent Withdrawal Rate

Have a question or comment? Add it here: