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Advisor Education

Managing retirement income: Addressing sequence of return risk

Robert Kron
Managing Director, Advisor Education
Retirement income

Volatile markets are unnerving for many investors; newly minted retirees find them particularly worrisome because of sequence of return risk: the risk of receiving lower or negative returns early in a period when withdrawals are made from an investment portfolio. For our purposes, this is the risk retirement income investors face when they retire at the beginning of a down market.

Chart 1 illustrates this risk. Imagine two retirees, each with a $200,000 portfolio. Each experiences the same return sequence over a 20-year period, but one has positive returns at the beginning while the other has them at the end.

As the illustration below shows, if each of our retirees withdrew $10,000 each year from their portfolios, the one who experienced the positive returns at the beginning of retirement found themselves with much more money in their account after 20 years. The retiree who experienced the negative returns at the beginning of retirement essentially depleted their portfolio after 20 years.

Retiring at beginning of bear vs bull market

Note that if neither retiree withdrew money during this period, they would end up with equal amounts because sequence of return risk isn’t a factor until one begins withdrawals. Why? The adage “it’s only a loss if you sell” is never more true than when withdrawing money from a declining portfolio. Regularly scheduled withdrawals, as many retirees elect, compound these losses, giving rise to the less desirable cousin of dollar cost averaging, known as “dollar cost ravaging.

Traditionally, the portfolio construction solution to dampen the sequence impact of return risk has been to ensure a retiree’s allocation has sufficient low volatility assets to reduce the need to sell growth-oriented/less liquid assets at a loss.

For most retirees, it’s much easier to predict cash flow needs in the first two to three years of retirement versus how much they will need in 10 or 20 years: Life happens. Goals change. People change. For that reason, a combination of near-term and long-term portfolio construction may make sense for most retirees. Its simplest manifestation is expressed using two “buckets” of assets:

Bucket 1: Shorter-term liquidity portfolio = Less volatile, highly liquid assets

In this bucket, you want assets that are less volatile and highly liquid, assets that you are comfortable selling to meet expenses for a period of two to four years depending on your financial plan and risk tolerance.

Bucket 1

Examples of less volatile, more liquid investments may include but are not limited to the following:

bucket one

Bucket 2: Long-term growth portfolio = More volatile, less liquid assets

While higher growth asset classes like equity and high yield fixed income through ETF's and mutual funds are liquid by design, they have historically been more volatile. You don’t want to have to sell them (at a potential loss) to meet an expense need, but rather use them to replenish the first bucket as appropriate. Bucket 2 can also include investments like real estate and private investments that are may be far less liquid than stocks, etc. It’s critical to know and document your acceptable level of volatility and illiquidity in Bucket 2.

Bucket 2

Examples of more volatile and/or less liquid investments may include, but are not limited to the following:

bucket image

As a reminder, Nuveen believes that markets are rapidly repricing around the odds of lower economic growth, more persistent inflation and tighter monetary conditions. Furthermore, we believe that until any of these change, it’s safe to expect continued market swings in both stocks and longer duration bonds.

Allocation considerations for retirement income portfolios: Opportunities exist

For cash going toward the shorter-term liquidity portfolio, higher starting yields today are very good news. For residents of higher tax states, state-specific municipal bond ladders are offering attractive tax-equivalents today. You can diversify this tax-exempt portfolio with taxable strategics like short-term government bonds for added liquidity and even higher quality as well as short dated loans for yield enhancement potential. This first bucket acts as a shock absorber which enables the second bucket to target higher growth (and, as is often the case, higher volatility) assets.

For cash being put to work in the long-term growth portfolio, a combination of equities, real assets and higher yielding, credit-sensitive fixed income should be considered. This portfolio can take advantage of less liquid strategies as well, assuming the liquidity portfolio is large enough to cover any liquidity needs in the next three to five years.

Recent volatility has created select value opportunities in U.S. large cap equities for longer-term investors. For retirees, dividend growers with higher quality balance sheets are a tax-efficient way to generate added income return. We also continue to think private real estate is an attractive way to generate real tax-efficient returns with less volatility than daily traded stocks. More persistent inflation, constrained supply of land and materials, and shifting trends in how we work and live are tailwinds for industrial, specialized office, sunbelt multifamily properties as well as single family rentals.

Keeping up with inflation1

No retirement income planning discussion would be complete without a comparison of what things cost in the past vs what they cost today.

item 1985 2005 2025
Loaf of bread $.55 $1.04 $1.88
Movie ticket $3.55 $6.41 ~$11.30 (est.)
Home $82,800 $232,500 ~$420,000 (est.)

Beyond the nostalgia factor (“I should have invested in loaves of bread in 1985!”), it’s important to understand how inflation can erode retirement income. Your portfolio needs to keep pace with inflation (ideally, outpace it) so that your goals don’t suffer or your lifestyle decline.

A range of investments exists that have historically helped investors keep ahead of inflation - for example, floating rate loan funds, certain commodities, and TIPs. These are only examples and there are more like them (of course, no investment’s performance is guaranteed). The important thing to remember is to be sure to include inflation projections and potential protections in your retirement income planning discussions.

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1Sources: Bread prices are U.S. city average retail prices for white bread (per pound) from the Bureau of Labor Statistics.
Movie ticket prices are the average domestic cinema ticket prices as reported by the National Association of Theatre Owners (NATO) for 1985 and 2005. The 2025 movie ticket price is an estimate based on early 2025 data (projected by industry analysts).
Median home prices are based on the U.S. Census Bureau's median sales price of new single-family houses sold in those years.  (The 1985 and 2005 figures correspond to early-year values, and the 2025 figure is an approximate mid-2025 value.)

This material, along with any views and opinions expressed within, are presented for informational and educational purposes only as of the date of production/writing and may change without notice at any time based on numerous factors, such as changing market, economic, political, or other conditions, legal and regulatory developments, additional risks and uncertainties and may not come to pass. There is no promise, representation, or warranty (express or implied) as to the past, future, or current accuracy, reliability or completeness of, nor liability for, decisions based on such information, and it should not be relied on as such. This material should not be regarded by the recipients as a substitute for the exercise of their own judgment.

Important information on risk

Past performance is no guarantee of future results. All investments carry a certain degree of risk, including the possible loss of principal, and there is no assurance that an investment will provide positive performance over any period of time. Certain products and services may not be available to all entities or persons. There is no guarantee that investment objectives will be achieved. See the applicable product literature for details.

Equity investments are subject to market risk or the risk that stocks will decline in response to such factors as adverse company news or industry developments or a general economic decline.

Investing in fixed income investments involves risks such as market risk, credit risk, interest rate/duration risk, call risk, tax risk, political and economic risk, derivatives risk, and income risk. Credit risk refers to an issuers ability to make interest and principal payments when due. Typically the value of, and income generated by, fixed income investments will decrease or increase based on changes in market interest rates. As interest rates rise, bond prices fall and as interest rates fall, bond prices rise. Income is only one component of performance and investor should consider all of the risk factors for an asset class before investing.

Municipal Bond income is generally exempt from regular federal income tax and may be subject to state and local taxes, based on the investor’s state of residence, as well as to the federal alternative minimum tax (AMT). Capital gains, if any, are subject to tax. Income from municipal bonds could be declared taxable because of unfavorable changes in tax laws, adverse interpretations by the Internal Revenue Service or state tax authorities, or noncompliant conduct of a bond issuer. Please contact a tax advisor regarding the suitability of tax-exempt investments as this information should not replace a client's consultation with a financial/tax professional regarding their tax situation. Nuveen and its investment specialists do not provide tax advice.

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