No. 05Paper2013
The Lifetime Sequence of Returns: A Retirement Planning Conundrum
Wade D. Pfau
Explains why two people with the same average return can have radically different results. Critical for understanding and mitigating the greatest risk of early retirement.
Abstract
This fundamental paper examines the sequence of returns risk phenomenon: how the order of market returns can have more impact than average return during retirement. Pfau demonstrates that compounded returns in the first 10 years of retirement can explain 77% of the final portfolio outcome. The study shows that early losses in retirement are devastating because you reduce the capital base just when compound interest begins in reverse. They introduce mitigation strategies like bond tents, rising equity glidepaths, and dynamic spending adjustments. The paper challenges conventional wisdom of reducing stocks in retirement, suggesting that gradually increasing stocks after the first years may be optimal.
Key Ideas
- 1The first 10 years of retirement explain 77% of your final portfolio outcome
- 2Early market losses are more damaging than late losses in retirement
- 3Rising equity glidepath (increasing stocks over time) can reduce sequence risk
- 4Keeping 1-2 years of expenses in cash/bonds protects against selling in downturns
- 5Spending flexibility during market lows dramatically improves success probabilities
Compounded returns in the first 10 years of retirement can explain 77% of the final retirement outcome, while the last 20 years have much less impact.
77%
Percentage of final retirement outcome explained by returns from the first 10 years