The following is a summary of our recent Lifetime Income Series podcast, which can be listened to on our site here or on iTunes here.
Many retirement planners often follow the standard advice in the industry based on historical returns and planned drawdowns rates, but the fact is, when you retire can make all the difference.
This time on the Financial Sense's Lifetime Income Series, Jim Puplava discussed some of the pitfalls of model assumptions and how investors can protect their nest eggs when downturns inevitably occur.
Timing Is Everything
Historical models and drawdown rate projections are based on assumptions that may not hold out for every person in every retirement situation, Puplava noted.
Imagine if you retired in the year 2000. The stock market lost basically 49 percent, and then in 2002 the stock market went back up, until the fall of 2007, at which time it lost another 57 percent. It wasn’t until April of 2013 that the S&P finally exceeded the old highs that were reached in March of 2000, Puplava stated.
“If you were invested in stocks between January 2000 and April 2013, your stock portfolio went essentially nowhere,” Puplava noted.
Pitfalls of Ignoring the Short Term
If somebody says you can expect a certain amount of return over a historical period, it’s crucial to consider that not all time periods are the same in the short term.
“Let’s say you lose the average in a bear market … (around) 50 percent of your portfolio,” Puplava said. “You need 100 percent return to break even again.”
For those who panicked and sold in 2009, that loss became real. It’s unlikely they got back in at March of 2009 at the bottom, or even the first couple of years of the bull market, Puplava stated.
One danger in this scenario becomes drawing down principle to maintain income levels. If you’re selling assets in a declining market, you’ll likely end up having to sell even more assets to maintain your drawdown rate, making recovery on the other end even more difficult.
“You’re having to liquidate more shares to get the same level of income, so it’s really dollar cost averaging in reverse,” Puplava said. “Most of today’s investment markets just don’t offer the same kind of rates of return that you were able to get.”
Playing Defense in Uncertain Times
When it comes to retirement, most want certainty. Right now, though, 7 years into this recovery with a possible recession coming next year, we see interest rates are at only half a percent.
“The Fed was only able to raise interest rates a quarter of a point in 7 years,” Puplava said. “That’s why we like individual securities … they’re more predictable.”
A lot depends on how you’ve structured your portfolio, Puplava stated. To insulate yourself from swings in the market, you have several options.
Option one is to design a portfolio where income doesn’t change in a bear market or in an economic recession. You could achieve this with a laddered bond portfolio, individual blue chip stocks that pay dividends reliably, or even immediate annuities.
“Design a portfolio that’s immune to the vagaries of the economy and the stock market,” Puplava said.
For our related case study, see pdf here or follow along with the slides below.
