Remember when setting up for retirement success seemed as easy as sitting back and watching your money grow in your 401(k), Roth IRA, or brokerage account?
Of course it is. It was only a few years ago that a record bull market (2009-2020) made most people look like investment geniuses.
And at the beginning of 2020, we all got a little reminder that it’s really not that easy, because the market has these cycles and it’s mostly unpredictable. The market recovered quickly after its first big coronavirus-related drop, but it’s been a rollercoaster ever since.
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This ongoing market volatility should serve as a warning to all savers that retirement planning isn’t just about making money, it’s also about protecting the money you’ve already earned. And this is a particularly important message for those who are years away from retirement, or even just a few years away from retirement. Stock market movements, and the order in which negative and positive returns occur, can have a significant impact on the lifespan of nest eggs when starting to exit a portfolio.
For example, if you get an initial negative return and need to sell some of your holdings to generate income, two things can happen. First, you may need to sell more shares at a lower price to get the amount you want. This reduces the number of shares that can generate positive returns in the future.
If you rely heavily on your portfolio for your retirement income and you can’t adjust your withdrawals, you may end up withdrawing more money in your first bad year than you can make up for in subsequent good years. And the portfolio could be depleted much faster than planned.
This is known as set return risk.
Unfortunately, this particular retirement risk is highly dependent on chance, so it can be difficult to prepare for it. After all, when people choose their retirement date, there is no telling what will happen in the US or global markets in a few years.
For example, some people were lucky enough to retire in 2010 or 2011, shortly after the start of a record bull market. But those who retired a decade earlier were stabbed multiple times, first by the bursting of the dot-com bubble, then 9/11, and then the Great Recession of 2008.
How can I improve my luck?
Sorry, we won’t be handing out crystal balls, tarot cards, or even magic 8 balls today. However, there are strategies you can employ to protect your portfolio from poor timing of retirement.
One of those strategies is to divide your assets into three separate investment “buckets”: a cash/emergency bucket, a protected income bucket, and a growth bucket. Let’s see how this breaks down.
Cash/Emergency Bucket: It’s a good idea to keep enough money in this bucket to cover at least six months of living expenses. That way, if something unexpected happens in your personal life or the market crashes, you won’t feel like you have to sell stocks to get the cash you need for retirement, and you’ll be able to manage your budget. can.
This bucket of cash (stash it in a high-yield savings account or money market account that can give you decent interest) can lead to expensive home and car repair bills, medical bills, and other unexpected surprises. Helps cover some unexpected expenses. until retirement.
Income Buckets Protected: This is a bucket you’ll be working down in the first decade or so of retirement, so it’s a good idea to fill this bucket with investments that you know will give you a solid return. It’s also your biggest asset, but the percentage of your portfolio that goes to protected income depends on how much you receive Social Security benefits and pensions.
One of the things I rely on most in this bucket is an uncapped, no fees, fixed index annuity. This can be used in retirement portfolios as an alternative to troubled bonds. These annuities have no initial fees or annual fees, protect your principal against loss, offer the potential for increased returns compared to bonds, and help diversify your portfolio.
Growing bucket: This is the part of your portfolio that you use to keep growing your money for the future (at least 10-15 years after retirement). This helps Nest Eggs keep up with inflation and allows you to tap to replenish your protected Income Bucket when it runs out.
The assets you choose to grow depend on your age and risk tolerance and can include anything from stocks and commodities to investment properties to private equity/hedge funds. If you don’t mind or really enjoy the market roller coaster, if you have extra money to play with, set aside a small percentage of this bucket especially for risky or speculative investments. You can also choose to
You can move to a bucket strategy anytime before or after retirement. But usually at least five years from now, he recommends starting to transition from an accumulation-focused portfolio to a conservation-focused portfolio. This gives you time to plan ahead with an experienced financial advisor. And you don’t have to worry about delaying retirement or returning to work, even if there’s some serious market drama right before or after you quit your job.
Kim Franke-Folstad contributed to this article.
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