The Sequence of Returns Risk (SORR) poses a significant concern for retirees, particularly when poor investment performance occurs early in retirement. Despite having adequate average returns, retirees withdrawing funds during downturns may deplete their portfolios before their retirement period ends. Commonly referenced is the 4% withdrawal rule, which suggests retirees should withdraw 4% of their initial portfolio value adjusted for inflation annually. This method emphasizes inflation’s impact rather than just focusing on returns.
Historical analysis of retirement periods reveals that the worst outcomes for retirees typically result not from returns, but from inflation. For instance, those retiring in 1966 faced high inflation rates that eroded real returns over their retirement, even while experiencing some positive market gains. This inflationary environment is termed stagflation and significantly affected the purchasing power of retirees, contributing to detrimental portfolio outcomes.
Different strategies can help retirees manage SORR effectively. Options include adopting a low withdrawal rate, maintaining a more aggressive asset allocation including stocks, and utilizing inflation-indexed bonds such as Treasury Inflation-Protected Securities (TIPS). Retirees may also consider delaying Social Security claims to benefit from inflation adjustments.
Ultimately, understanding the interactions between investments and inflation is crucial. While many retirees focus on achieving good returns, inflation can have a more damaging effect on their financial stability in retirement.
Why this story matters:
- Understanding the influence of inflation on retirement portfolios is critical for financial planning.
Key takeaway:
- Inflation has a more detrimental effect on retirees’ financial security than poor investment returns.
Opposing viewpoint:
- Some argue that with a proper investment strategy and withdrawal rate, returns can adequately support retirees despite inflation.
