Sequence of Returns Risk Report

Thank you for taking time to visit Annuity Digest.  The information on this page is intended to help you better understand the personalized sequence of returns risk report results that were sent to you in email.

This page contains the following information:

Explanation of Results

Sequence of returns risk refers to the negative impact that a series of bad investment returns can have on the portfolio of a person who is near retirement age or recently retired.

A period of poor investment returns or a “bear market” has an especially negative impact on the income producing ability of the investment portfolios of those who are near retirement age.  The reason is that this group of people has recently begun (or will soon begin) drawing income from their portfolios, and these portfolios have less time to recover from the damaging market events than, say, the portfolio of a person 25 years of age.  

The bottom-line is that a string of poor investment returns at a sensitive time (the beginning of retirement) can make it very difficult to play catch-up and repair the damage.

The email you received provided three results:

  1. The likelihood that your desired retirement income spending is sustainable over your lifetime given current or “normal” market conditions.  
  2. The likelihood that your desired retirement income spending is sustainable over your lifetime given after a poor sequence of returns.
  3. A measure of how sensitive your portfolio is to extreme market events and sequence of returns risk.

The first of the results above shows the likelihood that your savings can support your desired retirement spending under “normal” or non-extreme capital market (i.e. “stock market”) conditions.  A result of 90 percent means that your desired retirement spending is sustainable (will last throughout your expected lifetime) 9 out of 10 times.  A result of 60 percent means that your desired retirement spending rate is sustainable 6 out of 10 times.

It is important to note that these results are based on the age you provided.  You may want to consider running the results again with your projected retirement age if the age you provided in the form is your current age and you are not retired.  The number of years that your nest egg needs to support your desired spending is driven in large part by your current age.

The second result provides this same retirement sustainability figure. However, this time it is assumed that your portfolio just experienced a series of poor returns such as those that occurred during the recent financial crisis.  

The third result is the ratio of the two results above, and it is intended to represent your portfolio’s sensitivity to extreme or “Black Swan” market conditions.  A higher ratio represents higher sensitivity to sequence of returns risk.

Why Is this Important?

Sequence of returns risk and retirement sustainability move in the opposite direction:

  • Higher portfolio sensitivity to sequence of returns risk can translate to lower retirement sustainability.
  • Lower portfolio sensitivity to sequence of returns risk can translate into higher retirement sustainability.

What does this mean in plain English?  Consider the following:

  • You want your retirement finances to be “sustainable.”  In other words, you want to live within your means and minimize the chance of running-out of money during retirement.  You need to have retirement spending objectives that make sense given the savings and other resources available to generate the income for that spending.
  • Sequence of returns risk is something you want to avoid or minimize because it reduces your retirement sustainability.


What Can You Do with this Information?

Sequence of returns risk has quite a few “moving parts” or variables.

This is good news because it means that you have options when it comes to reducing your exposure to sequence of returns risk.  

Remember, a fundamental rule of financial planning for retirement is that a stable income stream (i.e. your retirement income) should not be financed with risky or volatile assets.  The primary “levers” available to you are the things that affect the volatility of your investment portfolio.  

  1. Annuities: Your results are based on the assumption that you have no guaranteed income from annuities.  Increasing the amount of income that comes from guaranteed sources such as annuities can significantly reduce your sequence of returns risk. Click here to understand this in more detail.
  2. Your Asset Allocation: Your results are based on an assumption that your retirement savings or “nest egg” is split evenly (50/50) between stocks and bonds.  Asset allocation is a primary factor in sequence of returns risk.  Reducing your portfolio’s exposure to more volatile assets such as stocks can reduce sequence of returns risk.  Click here to understand this in more detail.
  3. Age: You can’t affect your age, but you do need to be more aware of sequence of returns risk when you are approaching retirement age or recently retired.

There are several other factors that impacted your results, but these have a greater impact on retirement sustainability than sequence of returns risk:

  1. Your Desired Annual Retirement Spending: All things being equal, increasing this figure will decrease your retirement sustainability.
  2. Your Current Nest Egg: More savings will support more spending. Increasing your private savings will increase your retirement sustainability while decreasing retirement savings will decrease the result.
  3. Your Age and Gender: Age and gender affect your life expectancy. Both of these factors are fixed, but your life expectancy does change as you age and women tend to live longer than men.  A long life expectancy requires more resources than a short life expectancy, so longevity and your retirement sustainability actually move in the opposite direction.  In other words, a longer life expectancy equates to lower retirement sustainability because resources are required to support those additional years.
  4. Your Marital Status: In general, a married couple will require more resources (and have a higher combined life expectancy) than a single person.  As a result, all other things being equal, a married couple will have a lower retirement sustainability result than a single person.

Some Additional Things for You to Consider

  1. Connect with a Financial Advisor: The tools that generated the results you received in email can be used to generate many different “what-if” scenarios.  You are welcome to further explore these tools through a conversation with a financial advisor.  Click here to connect to a financial advisor.
  2. Taxes: It is assumed that the desired spending figure you provided is after taxes.  If not, your retirement sustainability figures are actually much lower since your desired retirement spending and therefore required income will decrease after taxes.
  3. Social Security: You may have thought about Social Security income before you provided your desired retirement spending number.  For example, maybe your actual desired retirement spending is $50,000, but you assumed $20,000 in Social Security income and provided the net $30,000 figure when submitting your information.  If not, incorporating Social Security payments into your desired spending will increase your retirement sustainability results.
  4. Pension Income: If you have any sources of pension income (not a 401k type of plan), it will also increase your retirement sustainability.   
  5. Financial Legacy: Financial legacy refers to the amount of money you wish to leave for your heirs.  In other words, financial legacy refers to the amount you want to leave as an inheritance.  There is a basic trade-off between retirement sustainability and financial legacy: the higher your desired financial legacy the lower your retirement sustainability.