How to Cope With Stock Market Losses in Retirement
The global pandemic, war in Ukraine and other world events have contributed to wild swings in the stock market. Retirement savers have seen both tremendous gains and precipitous losses in their 401(k) investments over just the past two years.
A steep drop in the stock market can be particularly devastating to retirees, who have few options to replace their depleted life savings. But there are a variety of ways for retirees to prepare for and cope with stock market declines so that their day-to-day income needs continue to be met, regardless of market conditions. Here's how to protect yourself from stock market risk in retirement:
Avoid Emotional Investment Decisions
Don't make sudden changes to your investment strategy based on a panic about a drop in the market or to chase returns when the market is hot. "What you should not do is sell anything in your accounts that you were not already planning to sell," says Stacy Ployhar, a certified financial planner for 2020 Financial Planning in Seattle. "Locking in your losses, which is what happens when you sell because of a market loss, only accomplishes one thing: No opportunity for that asset to correct and grow for the future."
Before you retire, make an investment plan that you can stick to regardless of how the market performs. You can't control your stock market returns, but you can make decisions about your asset allocation and the fees associated with your investments.
"In times like these I tell my clients to stick to the plan," says Lance Beckman, a certified financial planner for ClearWealth in Iowa City, Iowa. "Your risk tolerance is created by simulating the best of the best and the worst of the worst. Emotional decisions made now almost never pay off."
Create a Cash Reserve
Don't keep money you will need to pay for living expenses in the next few years in the stock market. Instead, retirees need to keep enough money to cover several years of costs in cash or other safe investments that have little to no risk of declining in value. A cash reserve will allow you to ride out stock market declines without having to withdraw money at a loss or have any disruptions to your retirement income.
"As a rule of thumb I like for clients to have at least two years of living expenses in cash and two years of living expenses in bonds before they retire," says Shaun Melby, a certified financial planner for Melby Wealth Management in Nashville. "That way, they can tap into the cash and bonds during a market decline and let their stock allocation recover."
Gradually Shift to More Conservative Investments
As you enter retirement, your mindset shifts from accumulating assets to protecting what you have saved. To do this, many people reallocate their investments to become more conservative over time.
However, the shift to more conservative investments should be gradual and you might want to keep a portion of your nest egg in equities to take advantage of stock market growth. "For someone in their 80s or 90s, I would still have a 30% to 40% equity exposure," says Lois Basil, a certified financial planner for Basil Financial Group in Chicago. "We want to build out safe investments, and that means money in checking and savings and either CDs or U.S. Treasury STRIPS, and we use the equity portion of a client's portfolio to get returns."
Some funds, such as target-date funds, will automatically change their mix of stocks and bonds to grow more conservative over time without any action required on the part of the investor. However, it's a good idea to make sure that you are comfortable with the glide path, or rate at which the fund shifts its holdings to become less risky. Target-date funds are designed to work for most people who share a target retirement year, but depending on your other investments and personal risk tolerance, they might not fit everyone's needs.
Continue to Invest
Your retirement could last for 20 or 30 years. This long time horizon makes continuing to invest a portion of your assets in the stock market throughout retirement worthwhile. "In order for your accounts to grow, you have to be willing to take on some level of risk," Ployhar says. "Even keeping everything in cash is a risk, because it loses its value to inflation."
Inflation can erode the purchasing power of your retirement savings over time, but you can also take steps to help your nest egg keep pace with the rising cost of living. You could shift a portion of your portfolio to investments that have historically kept pace with inflation, such as equities, commodities or real estate. Your Social Security payments and some types of government bonds are also automatically adjusted to keep pace with inflation.
"When you are 65, you are still investing for the next 20 or 25 years of your life, and you've got to make sure that your portfolio is not whittled away by the silent effects of inflation over time," says Benjamin Beck, a certified financial planner and chief investment officer at Beck Bode in Dedham, Massachusetts. "You need to protect your purchasing power and make sure you outpace inflation, and you have to participate in the market in order to have that."
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