Where will you get income in retirement? Most people
think: By cashing in the investments I’ve accumulated
during my working life. But even if you have a lot of
money saved, cashing in will not always work. You
need to have an income plan. The notion that you can
withdraw a fixed amount every month carries a lot of
Imagine a scenario where two brothers, three years
apart in age, both retire when they are 62 years old.
The year they retire, both brothers have exactly $1
million in assets and the exact same investments.
They each withdraw 5% or $50,000, adjusted for cost
of living, each year, and live 30 years in retirement
before dying. This story ends happily for the older
brother who left behind a large estate, but
unfortunately, not for the younger brother who ran out
of money at 84. How can this happen?
In this case, the older brother had positive returns
during the first couple of years in retirement, while the
younger brother had losses. The older brother’s first
two years’ gains were good enough to bolster him
against the later downturns. The younger one had no
such cushion against bad fortune. The older one was
lucky. It could have been the opposite, as both
brothers left their retirement in the hands of the stock
market’s whims. Their withdrawal strategy was a
version of dollar cost averaging, which is done to
accumulate assets during your working years. This
involves purchasing a constant dollar amount of stock
on a regular basis. It allows you to take advantage of
the ups and the downs of the market, smoothing out
the cost curve. Withdrawing on autopilot like the
brothers both did is dangerous. It risks dollar price
erosion, the evil twin of dollar cost averaging.
When an investment is up, there’s no problem. You
sell and reap the rewards. But if an investment is down
when you sell, the loss is magnified. Between 1970
and 1999 the Standard & Poor’s 500 stock index’s
average annual return was 13.66%. If you were retired
during that three-decade span, it appears you could
withdraw $136,000 each year without running out of
money. That’s true if the market moved in a straight
line, known as a linear return sequence. Unfortunately,
when we factor in the market volatility that occurred
then, an investor who withdrew $100,000 annually was
left with just $119,111 after 15 years. Not much to live
on. Given a yearly return of 13.66% over 15 years
under a linear return sequence, the ending balance
was $1,025,586. This is why income planning is so
There are many strategies for income planning,
including a defined withdrawal strategy, purpose-based
investing or a sequential income portfolio. Each
income strategy has its good and bad side. Let’s look
at defined withdrawal. Here, you create something
called an income ladder, which minimizes the risks of
needing to sell stocks in a down market. You buy a
series of quality fixed-income securities with staggered
maturity dates. You meet income needs with money
you get from matured principal and interest. On the
negative side, you forego capital gains’ selling if bond
prices go up because you are locked in until maturity.
And when rates go up, you are stuck earning less in
interest than you could if you had more flexibility.
Which alternative is right for you depends on how
much income you require, your total assets and many
Make sure you work with an advisor that understands
the importance of providing income in all markets
without jeopardizing your retirement plan.
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