As the bull market continues on for the ninth year in a row, workers are more likely to retire. However, said workers will have their portfolios tested. With a stock market where share prices are rising, projections have historically shown below-average future returns.
Take, for instance, a 65-year-old who retires when his or her portfolio is worth $1 million. If the retiree withdraws 4%, or $40,000 in the first year, and the portfolio loses 40% of its value soon after, he or she will have just $576,000 left to fund a retirement that could last 30 or more years. Any subsequent withdrawals will make it even harder for the portfolio to recover.
However, there are steps you can take to limit withdrawals from stocks when they are down and partly protect your portfolio. Just be sure to understand the trade-offs. Build a cash cushion by setting aside one to five years of living expenses in cash so you won’t have to sell stocks at depressed prices. Cash buffers help to facilitate a level headed reaction to the flux and flows of the market, however they are not optimal. Instead, many advisers use bonds as a buffer but bonds may need to be liquidated to cover living expense causing the buffer to shrink.
A second and better strategy is to rebalance your portfolio after major market moves. Retirees who do so, will use their winners to cover at least some of their expenses. “ this approach “systematically ensures” that an investor sells holdings that have appreciated most while also buying things that have declined and are relatively cheap,” says Michael Kitces, director of wealth management at Pinnacle Advisory Group Inc. in Columbia, Md. “By shifting money into assets that are beaten down, rebalancing helps a portfolio recover faster when a turnaround finally arrives,” he adds. Another idea is to use home-equity lines of credit or reverse mortgages but both charge upfront fees and interest.
While not ideal to think about during your retirement, retirees should regardless reduce spending and even consider getting a part-time job in order to make their portfolios less vulnerable for depletion.