When you are living off your investments in retirement, or nearing that point, a market drop can be unnerving. It may feel like the stakes are higher than they were when you had years or decades before you would start to use your money. So retirees need a plan for how to deal with sudden drops in the value of their investments.
“Volatility can be emotional and come with real challenges for retirees,” says Ken Hevert, senior vice president of retirement at Fidelity. “The key is to prepare your income strategy, and, if necessary, revisit your withdrawal plan and/or adapt your spending.”
Corrections are a normal part of investing. That’s why it makes sense to have a strong retirement income plan based on conservative market assumptions and a withdrawal rate that has been stress tested and shown to work in the vast majority of likely market scenarios. With a strong plan in place, many retirees need not worry or adjust their approach at all. Consider using your cash savings, investment income, or other income sources first, and look at your withdrawals and spending.
|1.||Guarantee that your essentials are covered.|
Consider an income strategy that includes enough guaranteed money—including Social Security, pensions, or annuities1—to cover housing, food, and other essential expenses. That way, your investment accounts are funding entertainment, travel, gifts, and other discretionary expenses—giving you the flexibility to pare back the spending from your investment accounts during down markets.
|2.||Cash may provide a cushion.|
When the market is down, cash can be a valuable shock absorber. Consider using the cash portion of your portfolio or savings to delay the need to sell stocks while the market is down. Selling stocks in a downturn can leave an account less invested when a recovery comes, turning what may be a temporary market decline into a permanent dent in your income stream. Having cash on hand may give you enough time to participate in a recovery. (Read Viewpoints: “Get more yield on your cash.”)
|3.||Be strategic about investment income.|
After cash, consider which parts of your investment portfolio to sell first. Consider the tax impact of different accounts. In general, it’s better to withdraw from taxable accounts first to allow investments in tax-deferred accounts like 401(k)s and IRAs to potentially continue growing.
Some retirees focus their portfolio on investments that can generate income in the form of dividends or interest so they can tap investment income to cover their cash flow needs instead of selling shares. That will preserve the principal, leaving the investor in a position to potentially benefit from a market recovery.
If you are spending down assets during a stock market swoon, check your asset allocation. If your mix has swung toward bonds as stocks prices have fallen, consider selling the bonds first. That will leave the growth stocks in place to recover, and can help rebalance to bring the portfolio’s risk level in line with the plan.
When you create a withdrawal strategy, you have to navigate a complex interplay between accounts and investments—and changing market conditions add yet another layer of factors. If the recent pullback has you losing sleep, it might be worth reconsidering your approach. (Read Viewpoints: Four tax-efficient withdrawal strategies.)
|4.||Check your withdrawal rate.|
Consider adjusting your withdrawal rate. As a general rule of thumb, history suggests that limiting the amount you take from your investment portfolio each year to 4%-5% of the account balance when you enter retirement, plus inflation, should shield you from running out of money prematurely. But if you want to be extra cautious and have the flexibility to do so, some retirees react to a bad stretch in the markets by skipping the inflation adjustment or reducing the withdrawal the following year. But again, most withdrawal plans should be built to last through typical downturns, so changes may not be necessary. (Read Viewpoints: “How can I make my retirement savings last?”)
|5.||Consider alternative income sources.|
If the markets are experiencing extended downturns, you may want to look for other sources of income as a temporary strategy. You may be able to take a part-time job, or find creative income sources—like renting out a vacation home or selling unused possessions. (Read Viewpoints: “Working in retirement: a rulebook.”)
|6.||Get used to volatility.|
“Market volatility is part and parcel of investing, so when you build a retirement plan, you can count on the fact that your balance will be moving in both directions,” says Ann Dowd, CFP® and vice president at Fidelity. “That said, having a plan to help preserve the potential for your portfolio to recover with the markets, take care of your essential expenses, and make sure your savings will last can help you keep your mind at ease even in the rockiest of markets.” (Read Viewpoints: “Navigate volatile markets.”)
Fidelity Brokerage Services LLC, Member NYSE, SIPC, 900 Salem Street, Smithfield, RI 02917