How long until sequence of returns risk no longer a concern?

[ER Eddie]

As title suggests, I'm wondering how long you need to go, post-retirement, before you no longer need to be concerned about sequence of returns.

"Sequence of returns" risk is the label I know it as, but I'm not a financial guy, so you may know it by other terms. I'm referring to the risk of the stock market tanking shortly after you retire, and how that potentially undermines your ability to withdraw at 4% safely.

I've heard different answers to this question, ranging from 1 or 2 years to 5 or 6 years.

What say you, ER finance gurus? How long past retirement does it take before that is no longer something to worry about? (I understand that everyone's worry threshold is different, but I'm asking for your best general estimate or gut feeling.)

 

[garyt]

I thought the 4% rule took into effect sequence of returns risk? So I guess I'd say you don't have to wait. That's why many people say 4% is too cautious. Having said that I just retired last year and having such a great year this year sure makes me feel better. Another up year ( just decent) will go a long way to make me feel really good.

 

[ER Eddie]

I thought the 4% rule took into effect sequence of returns risk? So I guess I'd say you don't have to wait. That's why many people say 4% is too cautious. Having said that I just retired last year and having such a great year this year sure makes me feel better. Another up year ( just decent) will go a long way to make me feel really good.

Yeah, I'm in the same position, recently retired and enjoying the booming economy. I'm hoping it stays this way for another year or two.

I think you're right, that the 4% rule takes sequence of returns into account, so I don't mean to imply that if the stock market tanks, you have to dial back spending below 4% to be safe. But it does get a little more uncertain, if the stock market tanks right after you retire, because those early returns seem to have a big impact on the size of the nestegg later.

And I'm sure it depends on how much the stock market tanks and for how long. For example, I'll bet you were in trouble if you retired just before that long period of stagflation in the 70s. Whereas you'd be okay if the stock market dropped say 30% but then rebounded in a few years.

 

[Lewis Clark]

Here is the best explanation I know of sequence risk. It's in two separate blog posts.

https://earlyretirementnow.com/2017...drawal-rates-part-14-sequence-of-return-risk/

https://earlyretirementnow.com/2017...-rates-part-15-sequence-of-return-risk-part2/

Early Retirement Now is my favorite blog.

 

[Sunset]

4% does not guarantee you won't run out of money, and past 33 years of retirement it can fail as they only found it worked for a maximum of 33 years in all cases.

Another issue with the 4% rule is it was created when interest rates were higher, and the big question is in these days of very low interest and record high stock market, will the next 10-20 years produce lower than historical returns ?

I think if you have less than 30 years of lifetime left, then it's a good yardstick, but personally if the market tanked 40%, I'd be cutting back to 3.5% for a few years.

 

[SumDay]

I recently stumbled on this article while trying to gather information on "living off dividends":

https://seekingalpha.com/article/4229370-retirement-risks-and-issues-sequence-of-return-risks

A lot of articles on Sequence of Return risk stress that there is nothing the individual investor can do to control when the below average years will happen and how many of them will happen in a row. It's all luck of the draw. So what is an investor to do so as not to be blown to a hostile shore by the winds of fate?

The good news for those who depend mostly or entirely on dividends for their cash needs, is that dividends are far less variable than share prices. Dividends are far more "sticky" than share prices. While share prices do tend to trend upwards, day to day movements are fairly random and decreases are both common and can be quite large. Dividends tend to stay the same or increase over time and for American companies, they rarely decrease.

I still haven't made a decision on the dividends...

 

[BeachOrCity]

There is no magic number.

That being said most people would tell you that after 5 years your risk reduces considerably.

 

[SumDay]

.....

I think you're right, that the 4% rule takes sequence of returns into account, so I don't mean to imply that if the stock market tanks, you have to dial back spending below 4% to be safe. But it does get a little more uncertain, if the stock market tanks right after you retire, because those early returns seem to have a big impact on the size of the nestegg later.

And I'm sure it depends on how much the stock market tanks and for how long. For example, I'll bet you were in trouble if you retired just before that long period of stagflation in the 70s. Whereas you'd be okay if the stock market dropped say 30% but then rebounded in a few years.

This blog post from Go Curry Cracker addresses just this issue. It's very comforting to me.

 

[Marc]

ER Eddie, I have been wondering the exact same thing and was going to start an identical thread.

I retired a little over two years ago. My withdrawal rate is 5% as I included the PV of SS to my financial assets. Since that date I have sold old house, paid off new house, eliminated a number of items from bucket list through around $200K in travel, made expensive modifications to new house, and have booked/partially paid for around $200K of future travel eliminating more from the bucket list.

My "number" was $3.3M which I powered through during the late 2016 through 2017 market retiring with about $3.6M in assets. I am now close to touching $4.0M. Also, as market has been increasing over last year, I have two years of expenses in cash; I don't anticipate needing to sell any stock funds until at least mid-2022.

Have I beat the SoRR?

Or, do I still need to be "concerned" for next few years?

thanks,

Marc

 

[GenXguy]

I've mentioned this before, but Bengen later changed the 4% rule to the 4.5% rule.

https://www.reddit.com/r/financiali...ngen_and_i_first_proposed_the_4_safe/dlz1l6r/

 

[pb4uski]

There is no magic number.

That being said most people would tell you that after 5 years your risk reduces considerably.

Yes, I think so.

Example: Joe is retires with $1 million in a 60/40 portfolio and a 4% WR ($40k in the first year, adjusted for inflation in subsequent years). In the first 5 years, Joe's portfolio grows 8% a year. Meanwhile, Joe increases withdrawals 2% annually for inflation. Joe's portfolio grows as follows:

	Withdrawals	Investment Return*	Balance	WR
0			1,000,000
1	-40,000	78,400	1,038,400	4.0%
2	-40,800	81,440	1,079,040	3.9%
3	-41,616	84,659	1,122,083	3.9%
4	-42,448	88,069	1,167,703	3.8%
5	-43,297	91,684	1,216,090	3.7%
6	-44,163			3.6%

* assumes that withdrawals are made evenly throught the year, so investment return is 8% of beginning balance less 1/2 the withdrawal... year 1 investment return is based on an average balance of $1 million less 1/2 of $40,000 = $980,000 * 8%

Since the growth of the portfolio exceeds the growth of withdrawals, Joe's WR based on his beginning of year balance steadily declines and after 5 years is a close to bullet-proof 3.6% plus there are 5 less years to fund.

ETA: Obviously if Joe resets and starts withdrawing $48,644 (4% of $1,216,090) in year 6 instead of the $44,163 he effectively restarts his SORR just as a new retiree retiring in year 6 with $1,216,090 and a 4% WR would have.

 

[rayvt]

History does not start the day you retire. Every day is the first day of the rest of your (investing) life.

The market could tank the day after you retire or it could tank on the 5th anniversary of your retirement. How is one date different from the other? In either case, you have to problem that your portfolio that you have to live on for the rest of your life just took a big hit.

What matters is the size of your portfolio vs. your withdrawals. If your withdrawal is $40,000 (based on 4% of a $1M portfolio) but the current portfolio value is only $800K, then you have a problem.

The presumption that you only need to worry about SOR for the first 5 years and not afterwards is that they implicitly assume that in 5 years the portfolio will have grown more than you have been withdrawing.

The correct way to handle the SOR problem is to reduce your withdrawals when the portfolio has declined a lot.

So: Stick to your chosen asset allocation, and have a set of rules for cutting your withdrawals in sustained bad times.

This is generally called "Flexible/Variable Withdrawal Strategy". I like the Guyton-Klinger version myself.

As it so happens, I retired just before the 2008 bear market. Used the Guyton-Klinger withdrawal rules, and came out fine.

 

[NW-Bound]

4% does not guarantee you won't run out of money, and past 33 years of retirement it can fail as they only found it worked for a maximum of 33 years in all cases...

Yes, in the past the 4% WR would get you 30 years of retirement, but there was a possibility of you dying with a small portion left. That small possibility is what called the SORR (sequence of return risk).

Nowadays, people expect to be in retirement for 40 or 50 years if not perpertually , and if they should die, to leave behind a bigger fortune than what they started with. If that's the case, then 4% WR is probably too high.

History does not start the day you retire. Every day is the first day of the rest of your (investing) life...

Yes, but for each day that you have lived, you have one less day on this earth. One less day to worry about SORR.

 

[NW-Bound]

Perhaps a way to see if you are past SORR is to run FIRECalc every year like some posters have done. Run it again with the new balance of your stash, and with a reduced longevity now that you are older.

How much should you reduce the retirement period that you enter into FIRECalc? You don't lose one year of life expectancy for every year that you grow older.

I just thought about this. Perhaps you can use the life expectancy table that SS uses, then add 5 or 10 years as you wish as a safety margin.

For example, I found this on SS.gov.

A man turning age 65 on April 1, 2019 can expect to live, on average, until age 84.0.

A woman turning age 65 on April 1, 2019 can expect to live, on average, until age 86.5.

So, you are 65-year-old, you can plan on another 25 years, and that may be enough margin with 6 years beyond the average. Or you may plan for 30 years (death at 95).

As Koolau likes to say, YMMV. I think my mileage will not be that long, plus my WR is so low, I no longer worry about SORR.

 

[pb4uski]

... As it so happens, I retired just before the 2008 bear market. Used the Guyton-Klinger withdrawal rules, and came out fine.

That example isn't particularly helpful because even if you had used a fixed withdrawal strategy you would have come out fine too since the decline in values was short.

 

[euro]

Agree with the general sentiment here. Personally, I'm coming up on 4 years of ER and I quit worrying about sequence of return risk.

 

[W2R]

Agree with the general sentiment here. Personally, I'm coming up on 4 years of ER and I quit worrying about sequence of return risk.

Yeah, this is my 11th year. My concerns about SORR are definitely on the back burner.

 

[NW-Bound]

The bull market of recent past years has been kind to let me stop worrying about SORR, and frees me to think more about my health.

When you are likely to run out of life before money, well, you pay attention to what is more important.

An youngin' ER of 40 years old will have a different concern, but a pre-geezer like me?

 

[ER Eddie]

I recently stumbled on this article while trying to gather information on "living off dividends":

https://seekingalpha.com/article/4229370-retirement-risks-and-issues-sequence-of-return-risks

I still haven't made a decision on the dividends...

Yes, I've read the same thing about dividends. They tend to be pretty stable during downturns, much more than equities. I believe it has something to do with the companies not wanting to cut dividends, because doing so signals they are in trouble.

 

[RobbieB]

Another reason I'm heavy on equities.

 

[MuirWannabe]

I’m only 3 years into retirement. I’m 57 and expect I’ll be paying attention to SORR for another 5 years or so. Not worrying excessively about it. But certainly paying attention. First 3 years has gone well which has been nice.

 

[ER Eddie]

Okay, so I'm hearing 4 or 5 years.

 

[RxMan]

I understand the concerns over sequence of returns and the possibility of a large drop in portfolio values just after retirement. There seems to be mitigation strategies such as changing asset allocation, increasing cash holdings, or using some of your nest egg to buy an annuity for guaranteed income just to name a few.

To me, the bigger worries or threats to prosperity are the more gradual but constant destroyers of wealth such as inflation and/or taxes. Those can eat up a large percentage of wealth and/or buying power and they are much more of a constant yearly threat rather than a singular major market correction assuming there isn’t a massive long term downturn in the markets.

 

[REWahoo]

To me, the bigger worries or threats to prosperity are the more gradual but constant destroyers of wealth such as inflation and/or taxes. Those can eat up a large percentage of wealth and/or buying power and they are much more of a constant yearly threat rather than a singular major market correction assuming there isn’t a massive long term downturn in the markets.

+1

For an illustration of this, look at the graph on the "Start Here" page of FIRECcalc. Retiring in 1973, right into the teeth of stagflation, would have been a retirement portfolio killer with both a market drop and years of high inflation.

 

[ncbill]

Again, the reality is no one robotically spends a fixed percentage of their portfolio annually.

Following the Boglehead-recommended variable percentage withdrawal (VPW) strategy significantly reduces exposure to SORR.