Leslie Hammock discussing Sequence of return
Listen to the interview on the Business Innovators Radio Network: https://businessinnovatorsradio.com/interview-with-leslie-hammock-founder-of-retire-by-design-discussing-sequence-of-return/
In this episode of Influential Entrepreneurs, host Mike Saunders welcomes back Leslie
Hammock, founder of Retire by Design. The focus of their discussion is the concept of
“sequence of return,” a term that often goes unexplained in retirement planning. Leslie breaks
down the three general phases of retirement planning: accumulation, preservation, and
distribution, and emphasizes the importance of understanding how the variability of market
returns can affect retirement success. He shares insights from her financial educational
workshops and illustrates her points with an example involving two investors. Listeners will gain a clearer understanding of how different phases of retirement can be impacted by the timing and sequence of investment returns. Tune in to learn how to better strategize your financial future!
The Impact of Sequence of Returns on Retirement Income
The sequence of returns is a critical concept in retirement planning that can significantly affect an individual’s financial confidence during their retirement years, particularly in the distribution phase. This phase occurs when retirees begin to withdraw funds from their retirement accounts to cover living expenses, and the timing of market returns can have profound implications.
Understanding Sequence of Returns
The sequence of returns refers to the order in which investment returns occur over time. It is
essential to recognize that two investors can achieve the same average return over a period but end up with vastly different outcomes based on the timing of those returns. For instance,
consider two investors who each invest $100,000 at age 45 and allow their investments to grow until age 65.
• Investor A experiences strong returns in the early years and poor returns later.
• Investor B faces poor returns initially but enjoys better returns in the later years.
Despite both investors ending up with the same amount at age 65, their experiences during the distribution phase can differ dramatically. If they both start withdrawing funds at retirement, Investor A, who had positive returns early on, is less likely to run out of money compared to Investor B, who had negative returns early in retirement. This is because early withdrawals during a market downturn can deplete the portfolio more quickly, especially when the market is not recovering.
The Distribution Phase and Its Risks
The distribution phase is particularly vulnerable to sequence of returns risk. Retirees often need to withdraw a certain amount of money each year, whether for living expenses or required minimum distributions (RMDs). If the market experiences a downturn during this time, retirees may be forced to sell investments at a loss to meet their cash flow needs. This situation creates a “double whammy” effect, where they are not only withdrawing funds but also doing so from a diminished portfolio.
Leslie Hammock emphasizes the importance of the “retirement red zone,” which spans five years before and after retirement. This period is critical because significant losses during this time can jeopardize the sustainability of retirement income. If retirees experience poor returns during this red zone, they may find themselves running out of money well before their life expectancy, especially if they live longer than anticipated.
Mitigating Sequence of Returns Risk
To mitigate the risks associated with the sequence of returns, it is crucial for retirees to have a
well-structured financial plan. Here are some strategies that can help:
1. Diversification: Employing a diversified investment strategy can help reduce risk. This
includes investing in a mix of asset classes, such as blue-chip stocks and high-growth
stocks, as well as assets that are uncorrelated to the stock market.
2. Guaranteed Income Streams: Retirees should consider securing guaranteed income
sources to cover their known expenses. This could include annuities or other financial
products that provide a steady income, allowing retirees to leave their growth-oriented
investments untouched during market downturns.
3. Withdrawal Strategy: Developing a thoughtful withdrawal strategy is essential. Retirees
should avoid withdrawing from their portfolios during market downturns and instead rely
on guaranteed income sources to cover their expenses.
4. Professional Guidance: Engaging with a financial advisor can provide retirees with the
expertise needed to navigate the complexities of retirement planning. Advisors can help
create a personalized plan that considers the unique circumstances of each retiree,
ensuring that they are prepared for various market conditions.
In conclusion, understanding the sequence of returns and its potential impact on retirement
income is vital for anyone approaching retirement. By planning ahead and employing strategies to mitigate risks, retirees can enhance their chances of maintaining financial stability throughout their retirement years.
Understanding Sequence of Returns in Retirement Planning
In the realm of retirement planning, the concept of “sequence of returns” is crucial yet often
overlooked. Leslie Hammock, founder of Retire by Design, emphasizes that understanding this concept can significantly impact the success of one’s retirement strategy.
What is Sequence of Returns?
Sequence of returns refers to the order in which investment returns occur over time. It highlights the fact that returns can vary from year to year, with some years yielding negative returns and others yielding positive ones. This variability can have a profound effect on retirees, especially during the distribution phase of retirement when they begin to withdraw funds from their investments.
Leslie explains that there are three general phases of retirement planning:
1. Accumulation Phase: This is when individuals are saving and investing for retirement.
2. Preservation Phase: This phase occurs right before or at the onset of retirement.
3. Distribution Phase: This is when retirees start to withdraw money from their retirement
accounts.
The sequence of returns becomes particularly critical during the distribution phase. For instance, two investors may have the same amount of money accumulated by the time they retire, but if one experiences poor returns early in retirement while the other enjoys good returns, their financial outcomes can be drastically different. The investor who faces negative returns early may run out of money much sooner than expected, even if their overall returns over the investment period were similar.
