Millions of recent retirees worry about outliving their money. There are significantly more challenges for retirees or those close to retirement, especially financial ones. Paying more for gas and groceries on a fixed income while watching your investment portfolio built over a lifetime decline in value is challenging. Are high inflation and the bear market derailing your retirement plans?
According to Pew Research, a rising share of older US adults (50.3%) is now retired, compared to 48.1% in the third quarter of 2019. According to the Bureau of Labor Statistics, coupled with a bear market, they will be facing the highest inflation of 8.6% since 1981.
Add to that a Bear market – where we see stock market values on a downward trend, and there's ample reason to be concerned.
A Vanguard study estimates that if you are retiring in a bear market with a balanced 50/50 portfolio and rely on that portfolio for 100% of your income, making withdrawals when stocks are down could increase the chance you outlive your money by 31% and reduce your income stream by 11%.
We spoke to financial experts on retirement planning who shared several options to help retirees better weather market downturns.
Avoid Panic Selling
Emotional reactions may drive you to sell investments. It may lead to inefficient decisions. Michael R. Acosta, CFP®, ChFC® of Consolidated Planning, warns, “Investors should spend less time listening and watching the news. They should also focus on what they can control, which comes down to how much they're saving and how much they're spending.”
Alexis Woodward, CFP®, CDAA™ and Co-Founder of Blend Wealth, says, “Sticking to your investment is a simple solution during a bear market. The fundamentals of investing stays the same even during a bear market. If you have a financial plan in place, it's already accounted for volatility and market downturns.”
Consult With Your Financial Advisor
It would be wise to contact your financial advisor to review your financial goals and how your plan reflects potential market downturns.
Yale Bock, CFA, President, YH & C Investments, says, “If you are investing over the long term, it might be a good idea to go through what you own with your advisor position by position. Positions you own that you have faith in are candidates for additional purchases, especially if the price has dipped dramatically. You also might look at ways to benefit from inflation, be it energy or inflation-adjusted holdings (TIPS).”
Bolster Your Cash Reserves
When nearing retirement, you should boost your cash reserves to weather market volatility. That often means selling stocks at the bottom. You'll want to evaluate ways to find extra cash so you don't have to face liquidating your investments to pay for basic living expenses.
Eric Maldonaldo, CFP, founder of Aquila Wealth Advisors, LLC, recommends that people “create a separate “Recession Proof Fund” savings account. This account has two years' worth of living expenses in cash at retirement. If there is a bear market, it allows you to stop drawing on your investment until the market recovers.”
Re-evaluate Your Budget
You want to right-size your budget for retirement by reducing spending, eliminating debt, and avoiding carrying any credit card balances. Delay making more significant purchases during high inflation and market downturns until there is more economic stability.
Asset Allocation and Rebalancing
Asset allocation reflects how the investor decides on the proportions of an investment portfolio, including stocks, bonds, cash equivalents, real estate, gold, and other commodities.
As markets go up or down in one asset class, proportions may shift away from your risk tolerance in retirement. As a result, a significant market move may require portfolio rebalancing to minimize your risk.
Woodward recommends, “Rebalancing your portfolio is another strategy to consider during downturns if you want to retire early because it helps control risk and prepare your portfolio for the rebound to maximize your return.”
Kevin Lao, CFP, Founder, Imagine Financial Security says, “The trick is to coordinate your rebalancing because if you just spend the now bucket (i.e., bucket strategy, explained below) at the beginning of your retirement, you end up getting more and more aggressive as you go through retirement savings.”
Take Advantage of Tax Loss Harvesting
It's painful to realize investment losses in a down market. However, those losses can help you reduce taxes by offsetting your gains now or in future years. Bear markets are an excellent time to take advantage of tax-loss harvesting.
Woodward says, “Tax-loss harvesting takes lemons and makes lemonade by harvesting or selling at a loss. You can use those losses to lower or eliminate future taxes on capital gains.”
Another benefit of down markets is Roth conversions. Roth IRAs have preferable benefits as you contribute after-tax dollars, your money grows tax-free, and you can make withdrawals after age 59.5 tax-free and penalty-free compared to Traditional IRAs.
According to the Tax Policy Center, only 29% or over 60 million taxpayers own IRAs, including traditional IRAs, Roth IRAs, Simplified Employee Pensions (SEP IRAs), and Savings Incentive Match Plans for Employees (SIMPLE IRAs). In addition, taxpayers can own multiple types of IRAs, with 23% owning traditional IRAs, while about 10% own Roth IRAs.
Marcus Blanchard, CFP, Focal Point Financial Planning Founder, says, “Falling markets present a great opportunity to proactively shift funds from your tax-deferred accounts to a Roth IRA/Roth 401K. For example, if you have 100 shares of an investment worth $10,000 at the beginning of the year, now worth $7,000 after the market dropped. Once the market recovers, you will avoid paying tax on the $3,000 of growth back, not even considering the future growth above that. Bear markets are Roth conversion opportunities on sale. ”
Take or Delay Social Security
Retirees may claim social security income sooner than the full retirement age at 70 years if they need the inflation-protected income. However, you may be leaving some money on the table. If you start receiving benefits at age 66, you get 100 percent of your monthly benefit.
However, suppose you delay receiving retirement benefits until after your full retirement age. In that case, your monthly income continues to increase up to 132% of the monthly benefit to collect social security.
Retirement Bucket Strategy
The retirement bucket strategy lets investors pull money from three buckets representing varying purposes and timeframes. The first bucket is short-term, with safer and liquid investments, the second is an intermediate-term containing moderate risk investments, including bonds, and the third holds long-term securities, including stocks.
Lao recommends the three-bucket strategy for future retirees to hedge bear market risk as you approach or enter retirement.
He explains, “This strategy involves creating ‘Now,' ‘Soon,' and ‘Later' buckets. The Now bucket could incorporate a CD ladder or individual bond ladder, short-duration bonds, treasuries, or other fixed-income alternatives. The later (or third) bucket might include some conservative investments but would have a healthy percentage allocated towards more aggressive investments to combat inflation.”
Marcus Blanchard adds, “Make sure your ‘safety bucket' is full. What I mean by that is to make sure you have at least five years of your expenses to help in safer investments like cash & bonds. How that mix looks between cash and investment-grade bonds (short-term vs. long-term) is up to you. These safer investments may feel like holding you back in a rising market, but just like a seatbelt, they will help catch when the market gets in a wreck.”
You want to avoid early withdrawals from your nest egg during market downturns. William Bengen originated the 4% rule in 1994 for retirees to withdraw annual income from a 50/50 balanced investment portfolio and not outlive their money.
For example, a retiree could take out $40,000 in a yearly income of a $1 million portfolio (i.e., $1 million x 0.04) in the first year of a 30-year retirement, making adjustments for inflation in future years.
With greater longevity, retirees may find comfort in a more conservative 3% withdrawal rate to allow their portfolios to last longer.
For those retiring early at age 50, taking social security is not yet an option. Lao suggests a bridge option to create an income floor strategy.
“You might consider a fixed period annuity to bridge the gap until you start Social Security at age 70. For example, if you retire at 50 and plan to take social security at 70, you could buy a 20-year immediate or deferred annuity. When you take social security, it will replace the income floor.”
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The cents of money is about financial education, here to teach and inspire you about money, seek new ideas, and to create greater comfort in your world about one of life’s great stresses. Linda wants to use her financial skills honed by her professional experience to help others.