How to avoid “dollar cost ravaging” in retirement

Patrick Nolan sits down with Mark Peterson, Director of Investment Strategy and Education, to talk about what investors can do to help their nest egg deliver for the long run.

Patrick: Mark, some 10,000 Americans turn 65 every day, yet the last baby boomer won’t turn 65 for another decade. What are the key challenges as they enter retirement and withdrawal mode?

Mark: Retirement investors face an unprecedented future where poor financial planning at the start of retirement can have catastrophic consequences later on. Unrealistic income targets, bad market timing and a lack of diversification are just some of the factors that can make or break a retiree’s financial longevity.

Patrick: Is this because we’re living longer?

Mark: In part, yes. We all need to plan for a longer unknown. Financial decisions at the beginning of retirement are crucial because they can become amplified over time. For example, retirees are taking more risk to achieve both income and growth, and this is a real concern going forward, especially if there is a market downturn.

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Patrick: Ten years into a bull market and the longest economic expansion in history, the investing world is debating whether it’s ending, or merely “adjusting”. What does this mean for investors preparing for retirement?

Mark: New retirees should be prepared for choppy conditions to continue and be aware of how this could impact the health of their portfolios. Even if a large downturn doesn’t occur, retirement is a good time to get better prepared for one. Small swings in portfolio value can be bearable, but recovering from a larger decline while your portfolio is beginning to produce retirement income is challenging. Remember, your portfolio’s ability to recover from downturns diminishes when you start taking withdrawals. It will not behave the same way as someone’s who’s still in saving mode.

Patrick: You describe this problem as “dollar-cost ravaging.” Talk more about what that means.

Mark: Investors have probably heard the term “dollar-cost-averaging,” where you make regularly timed investments to smooth out the risk of “buying high.” Retirees tend to do the opposite. Instead of putting money into their portfolio, they take it out with a regular cadence in the form of income. “Dollar-cost-ravaging” occurs when the market loses value while you’re taking withdrawals, especially in the early years of retirement. Because money is coming out rather than going in, it’s harder for the retiree to recover their losses when markets rebound. We even saw this during one of the most successful bull markets in our history over the past decade. The sequence of returns matters, and the biggest challenge is a bear market early in your retirement.  If you must take withdrawals to meet expenses, then having a well-constructed, risk-managed portfolio is vital to limiting the damage than can be caused by ravaging market conditions.

Patrick: What should investors do now if they are concerned about dollar cost ravaging?

Mark: For anyone who’s drawing income from their portfolio, now is a great time to take a closer look at your investments and recalibrate your portfolio to ensure you are protected against shifting market conditions. Bond yields are still low, but risk has picked up compared with the past decade. That increases the potential for losing portfolio value. Striking the right balance to limit your losses in a declining market is just as important as capturing growth when the market is strong. Your financial advisor can help walk through your income options and present potential outcomes under different market scenarios.

Patrick: Thanks, Mark.