Two retirees can earn the same average return and still end retirement with very different results. The reason is sequence of returns risk: the order in which market gains and losses occur matters when money is being withdrawn from a portfolio. A severe decline early in retirement can do more damage than the same decline many years later.

This is one of the most important shifts in retirement income planning. While someone is still saving, market declines can be uncomfortable but contributions continue buying investments. Once retirement begins, the direction of cash flow reverses. Money is leaving the portfolio, and selling during a downturn can permanently reduce the amount left to recover.

Same Returns, Different Order, Different Outcome

Imagine Retiree A and Retiree B each start with the same balance and withdraw the same amount every year. Over the next decade they experience the same annual returns, but in reverse order. Retiree A suffers several poor years first and strong years later. Retiree B gets the strong years first and the poor years near the end.

If neither person made withdrawals, the order would matter far less because multiplication produces the same ending result from the same set of returns. With withdrawals, however, Retiree A must sell more shares after early losses to fund spending. Those shares are gone when markets recover. Retiree B enters the later downturn with a larger base and has already benefited from earlier gains.

Why the First Years of Retirement Matter So Much

Sequence risk is most concerning around the transition from saving to spending. A market decline just before retirement can reduce the starting portfolio, and a decline soon after retirement can combine with withdrawals to create a second hit. That can force the retiree to reduce spending or increase the chance of depleting assets later.

There is no single number of years that defines the vulnerable period for everyone. The impact depends on withdrawal rate, asset mix, retirement length, spending flexibility, pensions, Social Security, and other income. The key idea is that early losses matter more when the portfolio is simultaneously funding living expenses.

Accumulation Investors Experience Down Markets Differently

Someone who is still working usually continues adding money during a decline. New contributions buy more shares at lower prices, and the investor may have years before withdrawals begin. Retirees face the opposite problem: they may need to sell assets regardless of price.

This is why a portfolio that looked appropriate during accumulation may need a different withdrawal strategy in retirement. The goal is no longer only to maximize long-term growth. It is also to create dependable cash flow without forcing unnecessary sales during the worst market periods.

Cash Reserves Can Reduce Forced Selling

One common way to manage sequence of returns risk is to keep enough short-term reserves to cover spending during a market decline. Instead of selling depressed stock investments immediately, the retiree can draw from cash or short-duration assets while giving the portfolio more time to recover.

The appropriate reserve depends on the household’s expenses, risk tolerance, other income, and investment strategy. Holding too much cash can create inflation and opportunity costs, so the goal is balance rather than moving the entire portfolio out of markets.

Flexible Withdrawals Can Help

Retirees who can reduce discretionary spending after poor market years place less pressure on the portfolio. Travel, gifts, large purchases, and other flexible expenses can sometimes be delayed while essential costs continue. Even modest spending adjustments can improve resilience because fewer shares need to be sold at low prices.

This is one reason retirement budgets are often separated into essential and discretionary categories. The more flexible the spending plan, the more options a retiree has when markets are weak.

Guaranteed Retirement Income Can Cover Part of the Floor

Social Security and pensions already reduce sequence risk because they provide income that does not require selling portfolio assets each month. Some people also use annuities for retirement to create another predictable income source. A lifetime income annuity can convert part of savings into payments that continue according to the contract.

That can reduce the amount that needs to be withdrawn from market investments for essential expenses. It does not eliminate sequence risk from the remaining portfolio, and it can reduce liquidity. The annuity should therefore be evaluated as one piece of an income floor rather than as a substitute for diversification.

Diversification and Withdrawal Design Still Matter

Reliable income does not remove the need for an appropriate investment allocation. Retirees may still need growth assets to manage inflation and long retirement periods. Bonds, cash, equities, and other investments each play different roles, and no asset class eliminates all risk.

A retirement plan should also specify where withdrawals will come from during normal markets and during major declines. Having rules in advance can reduce emotional decisions when headlines are negative.

A Simple Illustration Shows Why the Order Matters

Suppose two retirees each begin with the same portfolio and plan to withdraw $50,000 a year. Over five years, both experience the same returns: two negative years, two positive years, and one flat year. Retiree A receives the negative years first. Retiree B receives them last. Even though the average return is identical, Retiree A sells assets from a smaller balance early and has fewer shares left when the recovery arrives.

The example does not require a precise forecast to be useful. Its purpose is to show why a retirement plan based only on an expected average return can miss an important risk. Withdrawal timing and return order interact, so a plan should be tested against poor early years rather than only against long-run averages.

Frequently Asked Questions

When is sequence of returns risk highest?

It is especially important around the years just before and after retirement, when a portfolio is beginning to fund withdrawals. The exact vulnerable period varies with spending, portfolio size, asset mix, and other income.

Does sequence risk matter before retirement?

It can matter near retirement because a large loss shortly before withdrawals begin can reduce the starting balance. Earlier in the accumulation phase, ongoing contributions and a longer recovery period generally make the sequence less damaging.

Can an annuity eliminate sequence of returns risk?

No. Guaranteed income can reduce the need to sell invested assets for certain expenses, but the remaining portfolio can still experience sequence risk. An annuity also introduces its own liquidity, insurer, and contract considerations.

Retirement Success Depends on More Than the Average Return

A good average return can still produce a poor retirement outcome if the losses arrive at the wrong time. Sequence of returns risk is about timing, withdrawals, and the shrinking number of shares available to participate in recovery. Cash reserves, spending flexibility, diversified investments, and guaranteed retirement income can all help manage the risk when they are used as parts of one coordinated plan.