10 Strategies to Mitigate Sequencing Risk in Retirement

By Steve Conley, Academy of Life Planning

As retirees transition from accumulating wealth to drawing down their savings, managing sequencing risk becomes paramount. Sequencing risk, the risk of receiving lower or negative returns early in retirement, can significantly impact the longevity of retirement funds. Here we explore 10 strategies to mitigate this risk, ensuring a more secure and stable retirement.

1. Diversification of Income Streams Diversify your income sources in retirement. Incorporate a blend of earned income, if feasible, alongside dividends, interest from savings, and rental income. This approach reduces reliance on selling investments at potentially low values.

2. Adopt a Flexible Withdrawal Strategy Flexibility in withdrawal rates is key. In years when investment returns are low, reduce withdrawals and rely more on stable income sources like pensions or annuities. This prevents selling assets at a loss.

3. Implement a Bucket Strategy Segment your investments into 'buckets' based on the timing of withdrawals. Short-term buckets can consist of lower-risk investments, while long-term buckets can focus on growth. This approach can cushion against short-term market volatility.

4. Delay Taking Pensions If possible, delay drawing on pensions or state benefits. This can result in larger future payments, providing a more robust income stream in later retirement years.

5. Consider Annuities for Stable Income Annuities can offer a guaranteed income, protecting against market downturns. They are particularly useful in covering essential expenses and reducing the need to withdraw from investments during market dips.

6. Maintain an Emergency Fund Keep a portion of your savings in easily accessible, low-risk investments. This fund can be used during market downturns, avoiding the need to sell investments at a loss.

7. Regular Asset Allocation Review Consistently review and adjust your investment portfolio. As you age, gradually shift towards more conservative investments to reduce exposure to market volatility.

8. Embrace a Total Return Approach Look beyond just income (interest and dividends) and consider the total return of your investments, including capital gains. This broadens your opportunities for income.

9. Practice Regular Portfolio Rebalancing Rebalance your portfolio periodically to align with your target asset allocation. This can capitalise on market movements and ensure your risk level remains consistent.

10. Tax-Efficient Withdrawal Planning Plan withdrawals in a manner that minimises tax liabilities. Understanding the tax implications of withdrawing from different types of accounts can preserve more of your wealth.

In conclusion, managing sequencing risk is about creating a flexible, well-thought-out plan that accommodates market fluctuations and personal needs. It’s essential to regularly review and adjust your strategies in line with changing market conditions and personal circumstances. Consulting with a financial planner can provide peace of mind in navigating these complexities.

Comment: "Great article! I'm nearing retirement and found the strategies very helpful. How often should I review my asset allocation?"

Response: Thank you for your kind words! Regularly reviewing your asset allocation is crucial, especially as you approach and enter retirement. I recommend conducting a review at least annually or after significant market movements. This ensures your portfolio remains aligned with your risk tolerance and retirement goals. If you need personalized advice, consider consulting with a financial planner who can provide tailored recommendations.

Comment: "I'm curious about the bucket strategy. Can you explain how to set it up effectively?"

Response: I'm glad you found the bucket strategy intriguing! To set it up, divide your investments into three buckets:

1. Short-Term (1-3 years): Low-risk investments like cash or short-term bonds for immediate expenses.
2. Mid-Term (3-10 years): Moderate-risk investments such as a mix of bonds and equities for medium-term needs.
3. Long-Term (10+ years): Higher-risk, growth-oriented investments like stocks for long-term growth. This segmentation helps manage risk by ensuring that you have funds available when you need them, regardless of market conditions. For a detailed plan, a financial planner can help you tailor this strategy to your specific needs.

Comment: "Delaying pensions sounds risky. What if I need the money sooner?"

Response: Delaying pensions can indeed be a strategic decision, but it's not one-size-fits-all. It's important to weigh your immediate needs against the potential benefits of larger future payments. If you anticipate needing funds sooner, you might balance by delaying only a portion of your pensions or relying on other income sources in the meantime. Consulting with a financial planner can help you assess your unique situation and determine the best approach for you.

Comment: "How do I incorporate an emergency fund into my retirement planning?"

Response: Great question! An emergency fund is essential to cover unexpected expenses and avoid liquidating investments at a loss. Ideally, your emergency fund should cover 6-12 months of living expenses and be kept in easily accessible, low-risk accounts such as savings accounts or money market funds. This provides a financial cushion, ensuring you can handle unforeseen circumstances without disrupting your long-term investment strategy.

Comment: "Can you explain the total return approach in more detail?"

Response: Certainly! The total return approach focuses on the overall performance of your investments, including both income (dividends and interest) and capital gains. Rather than relying solely on income, you periodically sell assets to meet your withdrawal needs. This strategy allows for greater flexibility and the potential to maintain a balanced portfolio that can grow over time. It's a holistic way to manage your investments and can be particularly effective in managing sequencing risk.

Comment: "I appreciate the tax-efficient withdrawal planning tip. How can I get started with this?"

Response: I'm glad you found that tip useful! To start with tax-efficient withdrawal planning:

1. Understand your tax brackets: Know how different withdrawals affect your taxable income.
2. Strategize withdrawals: Draw from taxable accounts first, then tax-deferred accounts, and finally Roth IRAs.
3. Consider timing: Plan withdrawals to spread out taxable income and stay within lower tax brackets.
4. Consult a tax professional: They can provide detailed guidance tailored to your financial situation. Effective tax planning can help preserve more of your retirement funds, enhancing your financial security.

Comment: "This is very informative. Any advice for those of us already in retirement?"

Response: Thank you! For those already in retirement, it's essential to maintain flexibility and regularly review your financial plan. Continuously monitor and adjust your withdrawal rates based on market performance, ensure your asset allocation remains appropriate for your age and risk tolerance, and keep a diversified income stream. Also, revisit your tax strategies and consider consulting with a financial planner to optimize your retirement income and ensure it aligns with your long-term goals.