I have considered two scenarios below:
1. Scenario 1: A Systematic Withdrawal Plan for 20 years - a retiree who experiences returns @ 5% for the first 10 years and 10% returns for the next 10 years of retirement.
2. Scenario 2: A Systematic Withdrawal Plan for 20 years - a retiree who experiences returns @ 10% for the first 10 years and 5% returns for the next 10 years of retirement.
Scenario 1
Scenario 1 | ||||||
Year | Principal | Withdrawal | Portfolio remaining | Returns % D | Returns | Closing Balance |
1 | 10000000 | 1000000 | 9000000 | 5% | 450000 | 9450000 |
2 | 9450000 | 1000000 | 8450000 | 5% | 422500 | 8872500 |
3 | 8872500 | 1000000 | 7872500 | 5% | 393625 | 8266125 |
4 | 8266125 | 1000000 | 7266125 | 5% | 363306 | 7629431 |
5 | 7629431 | 1000000 | 6629431 | 5% | 331472 | 6960903 |
6 | 6960903 | 1000000 | 5960903 | 5% | 298045 | 6258948 |
7 | 6258948 | 1000000 | 5258948 | 5% | 262947 | 5521895 |
8 | 5521895 | 1000000 | 4521895 | 5% | 226095 | 4747990 |
9 | 4747990 | 1000000 | 3747990 | 5% | 187400 | 3935390 |
10 | 3935390 | 1000000 | 2935390 | 5% | 146769 | 3082159 |
11 | 3082159 | 1000000 | 2082159 | 10% | 208216 | 2290375 |
12 | 2290375 | 1000000 | 1290375 | 10% | 129038 | 1419413 |
13 | 1419413 | 1000000 | 419413 | 10% | 41941 | 461354 |
14 | 461354 | 1000000 | -538646 | 10% | -53865 | -592511 |
15 | -592511 | 1000000 | -1592511 | 10% | -159251 | -1751762 |
16 | -1751762 | 1000000 | -2751762 | 10% | -275176 | -3026938 |
17 | -3026938 | 1000000 | -4026938 | 10% | -402694 | -4429632 |
18 | -4429632 | 1000000 | -5429632 | 10% | -542963 | -5972595 |
19 | -5972595 | 1000000 | -6972595 | 10% | -697260 | -7669855 |
20 | -7669855 | 1000000 | -8669855 | 10% | -866985 | -9536840 |
As evident from the table above, an individual earning 5% returns for the first 10 years and 10% returns subsequently will run out of money by year 14, assuming a fixed withdrawal of 1,000,000 every year.
Scenario 2
Scenario 2 | ||||||
Year | Principal | Withdrawal | Portfolio remaining | Returns % D | Returns | Closing Balance |
1 | 10000000 | 1000000 | 9000000 | 10% | 900000 | 9900000 |
2 | 9900000 | 1000000 | 8900000 | 10% | 890000 | 9790000 |
3 | 9790000 | 1000000 | 8790000 | 10% | 879000 | 9669000 |
4 | 9669000 | 1000000 | 8669000 | 10% | 866900 | 9535900 |
5 | 9535900 | 1000000 | 8535900 | 10% | 853590 | 9389490 |
6 | 9389490 | 1000000 | 8389490 | 10% | 838949 | 9228439 |
7 | 9228439 | 1000000 | 8228439 | 10% | 822844 | 9051283 |
8 | 9051283 | 1000000 | 8051283 | 10% | 805128 | 8856411 |
9 | 8856411 | 1000000 | 7856411 | 10% | 785641 | 8642052 |
10 | 8642052 | 1000000 | 7642052 | 10% | 764205 | 8406258 |
11 | 8406258 | 1000000 | 7406258 | 5% | 370313 | 7776570 |
12 | 7776570 | 1000000 | 6776570 | 5% | 338829 | 7115399 |
13 | 7115399 | 1000000 | 6115399 | 5% | 305770 | 6421169 |
14 | 6421169 | 1000000 | 5421169 | 5% | 271058 | 5692227 |
15 | 5692227 | 1000000 | 4692227 | 5% | 234611 | 4926839 |
16 | 4926839 | 1000000 | 3926839 | 5% | 196342 | 4123181 |
17 | 4123181 | 1000000 | 3123181 | 5% | 156159 | 3279340 |
18 | 3279340 | 1000000 | 2279340 | 5% | 113967 | 2393307 |
19 | 2393307 | 1000000 | 1393307 | 5% | 69665 | 1462972 |
20 | 1462972 | 1000000 | 462972 | 5% | 23149 | 486121 |
Again, as evident from the table above, an individual earning 10% returns for the first 10 years and a lower 5% returns for the subsequent years will still have money unused at the end of year 20.
Timing Matters
Sequence risk revolves around the timing dynamics in investment returns. Simply put, if a portfolio experiences lower returns when withdrawals are happening, it can have a lasting and adverse impact on the portfolio's value. This is because there are fewer monies left to benefit from potential market recoveries in subsequent periods. Conversely, higher returns in the early stages of retirement can positively influence the longevity of a portfolio, especially if the early portfolio balance is high.
This makes it incumbent on individuals to possibly target her/his retirement in periods of better market conditions or take remedial measures or completely delay retirement in case of unfavorable market conditions.
Some of the remedial measures may include keeping a reserve to tide over periods of lower returns, especially early in the retirement period or simply scaling back on the withdrawals in the early years of retirement.