Why Retiring Into a Down Market Is So Risky

By Greg Stevens · 4 min read

Here's a retirement risk that surprises a lot of people: two retirees can start with the same savings, earn the same average return, and end up in completely different places.

An example

Picture two people who each retire with $500,000 and take out $30,000 a year. Over twenty years, they get the exact same set of annual returns, averaging 3.75%. The only difference is the order those returns arrive in.

• Good years first: after twenty years, this retiree still has about $389,000.
• Bad years first: this retiree runs out of money in year twelve.

Why it happens

When the market drops early in retirement, you're selling investments at low prices to pay your bills. Those shares are gone, so they aren't there to recover when the market comes back. The same drop late in retirement does far less damage, because the account has already had years to grow.

This is called sequence-of-returns risk, and the years just before and just after you retire are when it matters most.

How people manage it

• Cover the basics with steady income. Social Security, a pension, or an income annuity pays the bills no matter what the market does, so you aren't forced to sell in a downturn.
• Keep a cash cushion of one to two years of spending to draw from during a bad stretch.
• Be flexible about spending in down years when you can.

The first step is knowing how much of your monthly spending is already covered by steady income. That's your income gap.