There is a lot to think about when planning for retirement. Primarily if you use Flexible Access Drawdown<\/a>. While we have a degree of control over many of the choices involved, there’s one big wild card called sequence risk<\/strong>.<\/p>\n Sequence risk is the risk that you’ll encounter negative investment returns in early retirement and taking a flexible income<\/a>. This is an essential consideration because the random sequence \u2013 or order \u2013 in which you earn your returns early in retirement<\/a> can significantly impact your lasting wealth. Simply put, a retirement portfolio that happens<\/a> to experience positive returns early in retirement will outlast an identical portfolio that must endure negative returns early in retirement \u2026 even if their long-term rates of return end up the same<\/strong>.<\/p>\n Since nobody can predict which return sequence they’ll experience early in their retirement, every family should prepare for a range of possibilities in their realistic retirement planning<\/a>.<\/p>\n It’s no secret that global stock markets are volatile. While long-term average annual returns may be in the range of 7%, markets rarely deliver this exact average in any given year. Soaring one year, plummeting the next; we never know for sure how far above or below average each year will be.<\/p>\n During your career, you’re mostly spending earned income while adding to your retirement reserves as aggressively as your plans call for. As long as you stay the course \u2013 benefiting from the upswings and enduring the downturns \u2013 tolerating market volatility<\/a> is just part of the plan.<\/p>\n When you’re still accumulating wealth, market downturns allow you to buy more shares than you otherwise could when prices are higher. When the market recovers, you have more shares to recover with, ultimately strengthening your portfolio.<\/p>\n But then, you stop working and start spending your reserves. This has the opposite effect. When stock markets decline, you may need to sell shares at low prices, which means you’ll have to sell more to withdraw the same amount of cash. Even though the market is expected to recover and continue upward eventually, your portfolio will have fewer shares to participate in the recovery. This hurts your portfolio’s staying power. It won’t be able to bounce back as readily as when you were adding shares to it, or at least not taking them away.<\/p>\n Consider two hypothetical retirees, Joan and Jane:<\/p>\n With so much in common, you might assume their portfolios would perform similarly. But what if Joan happens to enter into retirement during a horrible market? Let’s imagine her portfolio returns \u201330% and \u201320% in her first two years, while Jane earns 7% both years and (implausibly) every year after that.<\/p>\n After two years, markets recovered nicely for Joan, so she ultimately earned the same average 7% annual return as Jane. However, sequence risk took a heavy toll on Joan’s remaining shares. She ended up with only about \u00a3150,000, while Jane’s portfolio grew nicely to around \u00a32 million.<\/p>\n If we take the same two portfolios and identical sequences of returns \u2013 but eliminate the \u00a350,000 annual withdrawals \u2013Joan and Jane would end up with about \u00a35.4 million<\/strong> after 25 years. This illustrates why the sequence of returns is usually not nearly as significant when you\u2019re still accumulating wealth but can matter quite a bit in the early years of depleting your portfolio.<\/p>\n Sequence risk should NOT change your overall approach to investing<\/a>. As 2020 has clearly shown us, you never know what will happen next. Crashes usually occur without warning, while some of the strongest rebounds arrive amidst the darkest days.<\/p>\n So, whether you’re 20, 40, 60, or 102, we still recommend building and maintaining a low-cost, globally diversified portfolio that reflects your personal goals and risk tolerances. We always advise against trying to pick individual stocks or react to current market<\/a> conditions. We still suggest you only change your portfolio’s asset allocations if your personal goals have changed \u2013 never in raw reaction to changeable market moods.<\/p>\n What can you do to mitigate sequence risk if it happens to you?<\/p>\n Consult with a financial advisor. <\/strong>Sequence risk is usually not the only consideration at play in retirement planning, especially Flexible Access Drawdown. There are taxes to consider. Estate plans to bear in mind. Carefully structured investment portfolios<\/a> to maintain. Logistics to learn. All this speaks to the value an experienced advisor can add before, during, and after this pivotal time in your financial journey<\/a>.<\/p>\n At Consilium, we help our clients prepare for and mitigate sequence risk within the greater context of their goals for funding, managing, spending, and bequeathing their lifetime wealth. Please be in touch today if we can help you with the same.<\/p>\nThe Significance of Sequence Risk<\/h2>\n
Sequence Risk Illustrated<\/h3>\n
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Managing the Sequence Risk Wild Card<\/h2>\n
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