Why 2022 was a dangerous time to retire – and what to do about it

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It’s a scary time for new retirees.

Stocks are down this year. Bonds, a heavyweight when stocks falter, also crashed. Both trends are troubling for seniors who rely on investments for their retirement income. high inflation It also means that retirees need to earn more income to afford the same items and make ends meet.

“This is a very bad combination and it is relatively rare,” said David Blanchett, head of retirement research at PGIM, the investment management arm of Prudential Financial, of this three-dimensional challenge.

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“2022 was a dangerous time for retirement,” he added.

However, there are steps retirees—and those who plan to retire soon—can take to protect their nest.

why does it matter

The S&P 500 . Index It decreased by about 17% in 2022. Index Fell in a bear market Sometime on Friday (meaning the US stock index was down more than 20% from its recent high in January) before recovering a bit.

Bloomberg US Total Bonds index It’s also down over 9% this year. Bond prices move opposite interest rates, a dynamic that emphasized bond funds as The Federal Reserve raises its benchmark rate.

Investors are most vulnerable to market shocks in the early months and years of retirement.

This is due to the risk of “return sequences”. A person who withdraws money early in retirement from a portfolio that is declining in value is more likely to deplete their nest egg very early, compared to a retiree who experiences a declining market years later.

When the market declines, it means that investors need to sell more of their investments to generate income. This depletes savings faster and leaves less of a growth tread when things pick up, holding back a portfolio that was supposed to last several decades.

What matters is the “sequence” – or timing – of the investment returns.

Keep this in mind Example From Charles Schwab two new retirees with $1 million portfolios and $50,000 annual withdrawals (adjusted for inflation). The only difference is when they each experience a 15% portfolio loss:

One has a 15% decrease in the first two years of retirement and a 6% gain each year after that. The other has an annual gain of 6% for the first nine years, a negative return of 15% in years 10 and 11, and an annual gain of 6% after that.

If you are planning for 30 years [of retirement]Those first few years can be really important in terms of what you will eventually experience for your results.

David Blanchett

Head of Retirement Research at PGIM

The first investor will run out of money after 18 years, while the other will have about $400,000 left.

“If you plan for 30 years [of retirement]Those first few years can be really important in terms of what you will eventually experience for your results,” said Blanchett.

Of course, some retirees are more vulnerable than others.

For example, a retiree who receives all or most of the income from Social Security, annuities or annuities is largely unaffected by what happens in the stock market. The amount of this money is guaranteed.

Also, the risk of a sequencing of returns is likely to be less significant for someone who retires at an older age, because their portfolio won’t need to last for long. Nor is it likely to significantly affect a retiree who has saved far more money than is needed to fund his lifestyle.

what should be done

If new retirees are nervous given the current market situation, there are several ways to reduce their risk.

First, they can undo spending, thus reducing withdrawals from their eggs. supporters”4% base“The strategy might choose to forgo inflation adjustment, for example — even though there is that Many different schools of thought related to spending in retirement.

Whatever the strategy, reducing withdrawals puts less pressure on the investment portfolio.

“Does that mean you can’t take a fun cruise or vacation? Not necessarily,” Blanchett said. “It takes more thought about the trade-offs, probably, based on how things go.”

Likewise, retirees can restructure where their withdrawals come from. For example, to avoid withdrawing money from stocks or bonds (the categories in red this year), retirees can withdraw cash instead.

This is due to the sequence of risks and the attempt not to withdraw funds from assets that have depreciated in value. Pulling out of a cash bucket while waiting for other assets to (hopefully) redeem it helps make that happen.

“You don’t want to sell stocks or bonds in this environment if you can’t afford it,” said Kristen Benz, director of personal finance at Morningstar.

Retirees may not have several months or years of cash on hand. In this case, they can withdraw from areas that are not as severely affected as others – for example, perhaps from short or medium-term bond funds, which are less sensitive to rising interest rates.

Workers who are not yet retired (and who are concerned about having enough money to do so) can choose to work a little longer, to the extent that they can. Or they can consider earning some side income once they retire to reduce the stress on their eggs.

One of the most important things you can do is one of the most important things you can do, Benz said. For example, Social Security recipients get Guaranteed 8% annual payment For their benefits every year they delay the claim in the past full retirement age. (This 8% reinforcement stops after age 70.) Seniors who can delay get a permanent bump in their guaranteed annual income.