Sequence of Returns Risk: Why the Order of Your Returns Matters as Much as the Average
- Aug 13
- 3 min read
Same average return, very different outcomes depending on which years the losses hit. Here's why the order of your returns matters once you start drawing down your portfolio.
During your working years, if the market has a rough stretch, time is on your side you keep contributing, and the recovery eventually shows up in your average return. Once you're drawing income from a portfolio instead of adding to it, that safety net changes shape.
A downturn in the first few years of retirement can do outsized, and potentially lasting, damage to a portfolio's longevity even if the average return over the full retirement period is identical to a scenario where the downturn occurred later.
A Simple Way to See It
Picture two hypothetical retirees, each starting with the same portfolio value and withdrawing the same amount each year. One experiences a market decline in year one of retirement; the other experiences the identical decline in year twenty. Even though both portfolios earn the same average annual return over the full period, the retiree who was withdrawing money during the early downturn is selling more shares at depressed prices to generate the same income, significantly reducing the base that must recover. The retiree whose downturn came later had two decades of growth to build a cushion first. Same average, materially different endings.
This is illustrative, not a projection of any specific portfolio or investment outcome.
Why the Early Years Carry Outsized Weight
The technical term for this is sequence of returns risk, and it's specific to the withdrawal phase. It's the reason "just invest for the long-term average" advice, while sound during accumulation, isn't sufficient on its own once distributions begin. The first five to ten years of retirement tend to matter disproportionately, because that's when a bad market and ongoing withdrawals compound against each other most directly.
How a Plan Can Be Built to Withstand It:
Cash & Short-Term Reserves - Holding one to two years of anticipated withdrawals in cash or short-term instruments means a market decline doesn't force the sale of depressed assets to fund near-term spending.
Flexible Withdrawal Rates - A withdrawal strategy that can flex modestly in down years rather than a fixed percentage regardless of market conditions reduces how much is sold low.
Diversified Income Sources - Social Security, pensions, and fixed-income assets, which generally behave differently than equity markets, can help reduce how much of your spending relies on liquidating equities in any given year.
Glide Path Into Retirement - Gradually adjusting allocation in the years just before and after retirement, rather than a single one-time shift, can reduce how exposed the most vulnerable early years are to a downturn.
Rebalancing With Intent - In a down year, rebalancing can mean selectively drawing income from the assets that haven't declined, giving equities time to recover before they're tapped.
The Bigger Picture
While no strategy can eliminate market risk, careful planning can help manage the specific, timing-driven risks that arise once withdrawals begin. It's also a reminder of why a retirement income plan is a structure, not a single number: the sequence, not just the size, of your portfolio's returns shapes how long it lasts.
This material is for informational purposes only and does not constitute investment, tax, or legal advice. Hypothetical illustrations are for educational purposes only and do not represent the performance of any actual investment or guarantee any outcome. Past performance is not indicative of future results. Please consult your own advisors regarding your specific situation.
For the broader framework on required distributions, charitable giving strategies, and withdrawal sequencing, see our anchor Insights article, The Retirement Transition A Plan, Not a Date
Wondering whether your withdrawal strategy could withstand a bad first few years?
