What are the main sources of uncertainty?
Ashley Weeks, a wealth strategist at TD Wealth, says that investment losses early on in retirement can hurt your portfolio more compared to losses that happen later in retirement. This is known as the sequence of returns risk.
Weeks says that this risk is especially pronounced if you’re in what he calls the “retirement red zone,” meaning the five years before or after your retirement date. When you’re further out from retirement, you have time to weather the ups and downs of the market.
“The calculus changes pretty drastically when you suffer a big loss in that retirement red zone period because very often you are then going to be forced to liquidate some of your holdings in a depressed position and sell into the loss to cover those retirement expenses,” he says.
Why does a retirement spending plan matter?
Creating a plan for how you spend your savings can improve the chances that your money will last throughout your retirement.
One popular rule of thumb for retirement budgeting is the 4% rule, where you spend 4% of your retirement savings in your first year of retirement, then adjust the dollar amount in subsequent years to account for inflation. However, the 4% rule isn’t necessarily right for everyone, especially if we end up in a period of market turmoil.
“Probably a more flexible solution is something called the guardrails method, where you adjust discretionary spending in response to whatever the markets are doing,” Weeks says.
How to build a retirement cash buffer
“Cash and cash equivalents are probably some of the best ways to combat that sequence of returns risk,” Weeks says. He says this could include putting some of your assets in Treasurys, investment-grade bonds or fixed annuities.
Additionally, Weeks says that Social Security is an important source of retirement income that can provide a buffer if there’s a downturn in the market, especially since benefits are adjusted for inflation each year.
How to stress-test your retirement plan
It’s important to understand the risk in your portfolio and make sure you’re comfortable with it. Your financial advisor can help you run scenarios to see how your portfolio can withstand different events, like a market downturn.
“We will input a client’s current portfolio and show them, if we went through 2007 and 2008 again, this is how much on a whole-dollar basis you stand to lose,” Weeks says.
What investment strategies work in uncertain times?
Experts generally advise against panicking and changing your investing strategy when it starts to look like the market is heading toward a downturn. A well-built portfolio should be able to weather uncertainty and should move into safer assets like bonds as you get closer to retirement.
“You need to start mitigating risk 10 years out from when you’re going to retire,” Weeks says.
Moving your money into safer investments as you get closer to retirement can help shield your portfolio from market fluctuations. Though this typically means sacrificing higher returns for more stability, Scott Hefty, a senior wealth manager and co-founder of Serae Wealth, says that soon-to-be retirees benefit from the fact that rates on safer assets are still relatively high.
“The stars have somewhat aligned for people who are looking to retire,” Hefty says.
When interest rates were low, he says, investing in safe assets was less attractive because you could get much better returns in the stock market compared to investments like bonds or certificates of deposit (CDs). Now, after several years of the Federal Reserve keeping the federal-funds rate high, interest rates on those assets are much higher.
Additionally, because the Fed has started lowering rates, Hefty says those who hold investments with higher fixed rates will see the value of their holdings increase.
“If we’re already in those safe assets and rates continue to go down, the value of those bonds goes up,” he says.
The bucket strategy allows you to keep some of your assets in investments that typically have higher returns while also ensuring you have enough cash for the near term. With the bucket strategy, money that you need in the short term is kept in cash, high-yield savings accounts or CDs. For your medium-term bucket, money is kept in safer assets like bonds. Money in your long-term bucket can be kept in riskier investments like stocks.
Bucketing provides a buffer so there’s a smaller chance of needing to sell while the market is down. You can “pour” from one bucket to another by selling higher-performing assets to move into your short-term bucket as your retirement progresses.
How to prepare emotionally for retirement
“Money isn’t everything, but it is inherently emotional because what it represents for people is the last 30, 40 years of their blood, sweat and tears,” Hefty says.
Retiring amid economic uncertainty can be scary, but it’s important to avoid making emotional decisions with your investments.
“It’s impossible to predict what’s going to happen, and very often those violent pull-downs in the market are bunched closely with some of the best days in the market that come after it,” Weeks says.
Weeks says that understanding how much you could gain or lose on your investments can be eye-opening. As you prepare for retirement, you should make sure you’re comfortable with the amount of risk in your portfolio.
Will a financial advisor help?
Your financial advisor can tailor your portfolio to your individual risk tolerance and help you stay on track as you near retirement.
“What we can do is steer the ship in a direction, and yes, different winds or currents are going to push us one way or the other,” Hefty says. “But over the long term, if we’re active and we’re looking to course-correct and make those minor adjustments, I’m pretty confident the boat’s going to get to where we need to go.”
An advisor can also help you with more advanced strategies, like Roth IRA conversions, if they make sense for your situation, Weeks says. Additionally, he recommends using free tools like calculators to see what your savings and expenses might look like in retirement.
FAQHow much cash should I have before retiring?
There’s no standard amount of cash a retiree should have, though you might want to consider keeping at least six to 12 months of expenses in a regular checking or savings account. You can also start moving some of your assets into safer, more liquid investments as you near retirement age.
Can I rely on working longer as a backup?
Working longer might be a worthwhile option if your investments take a hit when you’re nearing retirement. However, there’s no guarantee that you’ll be able to continue working.
What is stress testing, and how do I do it?
You can stress-test your retirement savings by simulating how your assets would be impacted by different market scenarios. A financial advisor can help you do this.
Should I delay Social Security to manage uncertainty?
The longer you wait to take Social Security, the more money you can get when you do start receiving your benefits, which can give you more of a cushion during market uncertainty. You can delay up to age 70.
How do I balance spending and emotional readiness?
As you prepare for retirement, your financial advisor can help ensure your portfolio is properly allocated and that you have a plan for how you’ll spend money after you retire. Having a plan can help you avoid making emotional decisions with your money.