How the sequence of returns risk can be a spoiler for your retirement
Published by Mint
Abhishek Kumar's role: Wrote this article
Abhishek Kumar, founder of SahajMoney, wrote this column explaining how early market falls in retirement can shorten a corpus, and how a bucket approach, diversification and flexible withdrawals can reduce that risk.
What Abhishek Kumar said
What is sequence of returns risk, and why does it matter more in retirement?
It is the risk that poor equity returns arrive early in retirement, or in the last working years, just as withdrawals begin. While I am still saving, a market fall is only a notional loss, because I keep adding money and have years to recover. Once I am drawing a monthly income from the corpus, every withdrawal in a downturn turns that notional loss into a real one, and a portfolio depleted early may never fully recover even when markets bounce back. Two retirees with the same average return can end up in very different places depending on which years came first.
How does a bucket strategy protect a retiree from a bad start?
I suggest splitting the corpus so that a few years of living expenses sit in safe, highly liquid instruments, with the rest invested for long-term growth. That cash bucket acts as a firewall: when markets fall, I draw from it rather than selling investments at depressed prices, and the growth bucket is given time to recover. The idea is simple, but it removes the forced selling that does most of the damage early in retirement.
Does diversification really help once I have retired?
I think it matters even more in retirement. Spreading the corpus across equity, bonds, real estate and other assets means that a poor stretch in one asset class is cushioned by the others, and I am not forced to sell the asset that has fallen most to pay the month's bills. The old advice about not keeping all the eggs in one basket is really a tool for managing withdrawals, not just for chasing growth.
Should a retiree withdraw a fixed amount every year, or adjust it?
I lean towards a dynamic approach: set the withdrawal as a percentage of the portfolio each year rather than a fixed rupee amount, and be ready to trim it, or lean on other income sources, in years when the portfolio has fallen. Taking less in a bad year leaves more invested to recover, which does a great deal to preserve the corpus over a long retirement. Recognising that the risk exists is the first step; the withdrawal rule is where it is acted on.
In our words, from what he said in the piece. General information, not personal advice.
More of Abhishek's views on retirement
An opinion piece by Abhishek Kumar in Mint explaining sequence of returns risk: market falls early in retirement, while withdrawals continue, can shorten how long a corpus lasts. It uses the Sensex's fall from above 20,000 in December 2007 to below 8,000 by October 2008 to compare two retirees, then outlines three ways to reduce the risk: a bucket approach, diversification across asset classes and dynamic withdrawals.
Publisher source
How the sequence of returns risk can be a spoiler for your retirement
