You’ve spent your entire working life saving for retirement. And while saving is important, the way you manage your retirement savings could be even more important. That savings, after all, typically becomes your income—and shifting from a saving mindset to a spending one can be difficult for many people.
Building a retirement income strategy starts with a realistic look at what you’d like your retirement to be like—and what that lifestyle will likely cost—establishing your priorities and understanding the tradeoffs of each option. That can result in something of a balancing act for your emotional as well as financial life. There is no one-size-fits all retirement, and as such there’s certainly no one-size-fits all retirement portfolio. But most retirees should consider their investments through the lens of one of these four categories:
Growth potential:It’s important that the growth of your investment portfolio outpaces inflation, but you should balance that need for growth against the risk of exposing your savings to excessive market fluctuations.
Guaranteed income:Investment returns fluctuate - often significantly. But certain insurance products, including fixed and variable annuities, can provide an income stream and help you prepare for retirement with greater certainty. Annuities, however, may come with fees and withdrawal penalties that can limit your flexibility should an unexpected need arise.
Flexibility:Having access to and control over your assets is important for some, but flexibility usually means giving up a stream of income.
Principal preservation:Knowing that your investment is safe can help you sleep at night, but investments that aim to preserve your principal1, such as money market funds, CDs or Treasury bonds, come with a different sort of risk. These investments generally offer relatively low yields—and your principal might not be large enough to generate enough income from interest or dividends to fund your desired retirement lifestyle. Plus, if you invest too conservatively, your savings may not grow quickly enough to keep pace with inflation.
Building retirement income strategies
While there are a number of ways to maximize your retirement assets, here are three of the most popular.
The first is for people whose assets are large enough or they have enough in terms of other income from a pension, Social Security or another source that they do not need to draw down principal.
1. Interest and dividends only
If you've accumulated enough savings, it may be possible to use income generated by your portfolio to meet all of your retirement income needs. A typical portfolio could include bonds, bond funds, CDs, and dividend-paying stocks.
- Minimal risk to principal if you’re investing in FDIC-insured CDs2 or U.S. government bonds.3
- When assets invested in bonds or CDs mature, the entire principal is returned to you.4
- The need to roll over bonds and CDs at maturity complicates long-term income projections because it is impossible to know future interest rates.
- Limited investments in stocks could leave you exposed to inflation risk.
- A heavy allocation in bond funds or dividend-paying stocks could expose you to increased market risk.
If you don’t fall into that group—and most people don’t—consider the second two strategies. Fidelity’s Income Strategy Evaluator can help you see where you are and map out possible strategies.
2. Investment portfolio only
Making regularly scheduled withdrawals from your investment earnings and principal is another approach. In this scenario, your investments are managed for a total return.
- Generates income and, depending on asset allocation, may provide growth opportunities.
- Making automated withdrawals simplifies the process.
- Greater flexibility and access to savings.
- May require more active management.
- Savings may not last through the end of your life.
3. Investment portfolio plus guarantees
By using a portion of your assets to purchase an annuity, you add an element of certainty to your retirement income strategy. An annuity is a long-term investment that comes with an insurance contract that guarantees a stream of income.
- Annuity income can be guaranteed for life —so this strategy can help cover essential expenses and manage the risk of outliving your savings.
- You can choose a fixed income annuity or a variable annuity. Fixed income annuities provide a set payment each annuity income date. Using additional assets, you can also purchase a feature—commonly referred to as a Cost of Living Adjustment (COLA)—that will increase your payments each year to help your income keep pace with inflation. Variable annuity payments fluctuate based on market performance and have the potential to help protect against inflation.
- Because an income annuity can provide a guaranteed source of income, you may be able to invest the rest of your portfolio with an eye towards growth.
- You may give up some control over a portion of your savings.
- Expenses associated with an annuity could be higher than other types of strategies.
- Income from the annuity might not be sufficient, causing you to draw down your other savings more than you’d like.
If you need some additional income for a period before full retirement, you may also want to consider using some of your assets to fund a short-term bridge strategy. Perhaps you will not be receiving Social Security or drawing on a pension or 401(k) immediately after you retire. Or, maybe you expect additional expenses due to a more active early retirement lifestyle. To help you “bridge” the gap, you might consider investing a portion of your portfolio in a way that will produce enough income to cover the gap, while investing the remainder for total return.
- A good way to generate an income stream for a fixed time period.
- The total return portion of your portfolio may produce enough growth to protect against inflation.
- Assets invested in total return strategy may be exposed to market risk.
- You must make certain that the assets in your total return portfolio will be adequate to cover your retirement income needs following your bridge period.