What Sequence of Return Risk Actually Means
There is something that has nothing to do with your investments or performance that can make or break your retirement. It is called sequence of return risk, and it's one of the most important things I discuss with every client before they retire.
Imagine two retirees, both starting with $1,000,000 and withdrawing $65,000 per year. Both earn the exact same average annual return of 5.93% over 15 years. On paper they are identical.
But the order of their returns is reversed. Retiree A gets the bad years first, three down years right out of the gate while she is drawing income. Retiree B gets those same bad years, just at the end instead of the beginning.
| Age | Retiree A. Bad Years First | Retiree B. Good Years First | ||
|---|---|---|---|---|
| Return | Year-End Balance | Return | Year-End Balance | |
| 65 | -9.03% | $844,700 | +13.48% | $1,069,800 |
| 66 | -11.85% | $679,603 | +31.15% | $1,338,043 |
| 67 | -21.97% | $465,294 | +15.89% | $1,485,658 |
| 68 | +28.36% | $532,252 | +2.10% | $1,451,856 |
| 69 | +10.74% | $524,416 | +14.82% | $1,602,022 |
| 70 | +4.83% | $484,745 | +25.94% | $1,952,586 |
| 71 | +15.61% | $495,413 | -36.55% | $1,173,916 |
| 72 | +5.48% | $457,562 | +5.48% | $1,173,246 |
| 73 | -36.55% | $225,323 | +15.61% | $1,291,390 |
| 74 | +25.94% | $218,772 | +4.83% | $1,288,764 |
| 75 | +14.82% | $186,194 | +10.74% | $1,362,178 |
| 76 | +2.10% | $125,104 | +28.36% | $1,683,491 |
| 77 | +15.89% | $79,983 | -21.97% | $1,248,628 |
| 78 | +31.15% | $39,898 | -11.85% | $1,035,666 |
| 79 | +13.48% | -$19,724 | -9.03% | $877,145 |
| Result | Runs out of money at 79 | $877,145 remaining | ||
Same fifteen returns. Same average. Same withdrawals. Retiree A runs out of money before age 80. Retiree B still has $877,145 left. The only difference was the order the returns happened to arrive in, something neither of them had any control over.
These aren't hypothetical numbers. That's the actual sequence of S&P 500 annual returns from 2000 through 2014, just reversed for one of the two retirees, to show that order, not average return, is what determines the outcome.
Why the Order Matters So Much
When you are still working and saving a bad year in the market is painful but recoverable. You are not pulling money out. You have time. The portfolio can sit there and wait for the recovery.
Retirement changes everything. The moment you start drawing income from a portfolio that is simultaneously falling you are selling assets at the worst possible time. That money is gone. It does not get to participate in the recovery.
And because your balance is now lower every future withdrawal represents a larger percentage of what remains. The math starts compounding against you in a way that is very difficult to reverse.
Want to know where you'd land if a bad sequence hit right as you retired?
Stress-Test My PlanWhat We Do About It
Avoiding risk altogether isn't the answer. Being too conservative in retirement carries its own serious dangers. The real fix is structuring your assets so a bad sequence of returns never forces you to sell investments at the wrong moment.
This is what the bucket strategy is built to do. By maintaining a safety bucket of liquid assets covering near-term income needs, you're never forced to draw from your growth investments during a downturn. You already have the cash you need. Your growth bucket gets to sit and recover.
See how the full bucket strategy works →
Your CalSTRS pension is actually one of the best sequence of return risk hedges that exists. It pays every month regardless of what markets are doing. It cannot be drawn down. It cannot be sequenced badly. For teachers, this is a real structural advantage, and I build every plan around it.