What Sequence of Returns Risk Actually Means
Sequence of returns risk is the danger that a significant market decline in the early years of your retirement — combined with ongoing withdrawals — can permanently impair your portfolio's ability to recover, even if the market eventually bounces back.
Consider two retirees who both earn an average of 7% per year over 20 years. Retiree A experiences strong returns early and poor returns late. Retiree B experiences poor returns early and strong returns late. Despite identical average returns, Retiree B may run out of money years before Retiree A — simply because of the order in which the returns arrived.
Why This Matters More in Retirement Than During Accumulation
During your working years, market downturns are buying opportunities. You are adding money to your portfolio, so lower prices mean you are buying more shares. Time and continued contributions allow your portfolio to recover.
In retirement, the math reverses. You are withdrawing money every month. A 30% market decline combined with ongoing withdrawals means you are selling shares at depressed prices — locking in losses and reducing the number of shares available to participate in the eventual recovery. The portfolio may never fully recover.
The Critical Window: The Five Years Before and After Retirement
Research suggests that the five years before and after retirement represent the highest-risk period for sequence of returns damage. A major market decline during this window — when your portfolio is at its largest and you are beginning withdrawals — can have a disproportionate impact on your long-term financial security.
This is why the investment strategy appropriate for a 45-year-old accumulator is often not appropriate for a 60-year-old approaching retirement. The risk profile needs to shift as you enter this critical window.
Strategies to Manage Sequence Risk
- Build a cash buffer: Maintaining 1–2 years of living expenses in cash or short-term instruments means you do not have to sell equities during a downturn to meet income needs.
- Establish a guaranteed income floor: Social Security, pensions, and certain annuity products provide income that does not depend on portfolio performance — reducing the amount you need to withdraw from investments during down markets.
- Reduce equity concentration approaching retirement: Gradually shifting toward a more conservative allocation in the years before retirement reduces the potential damage from a poorly timed market decline.
- Use flexible withdrawal strategies: Dynamic withdrawal approaches that reduce spending in down years can significantly extend portfolio longevity.
The Bottom Line
Average market returns tell you nothing about whether your retirement income plan will survive a bad sequence of early returns. Richard Placette II at MRB Capital Group helps Southeast Texas pre-retirees stress-test their retirement income plans against real historical market scenarios — including 2000–2002, 2008–2009, and other significant downturns — so they can retire with confidence rather than hope.