March 1st 2023.
(Image Source: https://evergreensmallbusiness.com) The expression "sequence of returns risk" refers to the possibility that your retirement savings may not last if you experience a period of bad returns at the start of retirement.
This is unrelated to the usual subjects of this blog, namely, tax laws, accounting, and small business.
However, in a recent post about why entrepreneurs may consider continuing to work longer, it was mentioned that working longer can help to reduce the chance of sequence of returns risk. Some individuals questioned this idea, prompting me to elaborate.
Let's begin by considering an example of sequence of returns risk.
Many people understand that it is usually possible to withdraw 4% from your retirement fund, with the amount adjusted for inflation each year.
For instance, someone who starts retirement with $1,000,000 can withdraw $40,000 the first year. If inflation is 5% in year one, the person can draw $42,000 in year two.
Generally, the four percent draw rate is effective. Only five cohorts of retirees have experienced failure when using a four-percent draw rate over a 30-year retirement period since the end of the U.S. Civil War.
These five cohorts failed due to a period of bad returns when their retirement began.
It is possible to avoid sequence of returns risk by working several more years and thus shifting the start of retirement further into the future.
You can verify the math behind this by conducting your own research.
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