Sequence-of-returns risk means the order of your investment returns matters enormously in retirement. Getting bad returns in your first few years — while withdrawing money — can permanently damage your portfolio, even if the long-term average return is fine. It's the #1 reason retirement plans fail.
Sequence-of-returns risk (SORR) is the risk that the order in which investment returns occur will negatively impact a retirement portfolio that is being drawn down. Two retirees can experience the exact same set of annual returns, but if one gets the bad years first and the other gets them last, their outcomes can differ by hundreds of thousands of dollars.
How It Works
During the accumulation phase (before retirement), the order of returns doesn't matter — a portfolio with no withdrawals ends up at the same value regardless of whether gains come early or late. But once you start withdrawing from a portfolio, the sequence becomes critical.
Why early losses are devastating:
When a portfolio drops early in retirement, withdrawals are taken from a smaller base. This permanently reduces the capital available for future compounding. Even if the market recovers, the portfolio never catches up because money was withdrawn during the trough.
A Practical Example
Consider two retirees, both starting with $1,000,000 and withdrawing $50,000/year:
Retiree A — bad returns first:
| Year | Return | Withdrawal | End Balance |
|---|---|---|---|
| 1 | -20% | $50,000 | $750,000 |
| 2 | -10% | $50,000 | $625,000 |
| 3 | +25% | $50,000 | $731,250 |
| 4 | +20% | $50,000 | $827,500 |
Retiree B — good returns first:
| Year | Return | Withdrawal | End Balance |
|---|---|---|---|
| 1 | +20% | $50,000 | $1,150,000 |
| 2 | +25% | $50,000 | $1,387,500 |
| 3 | -10% | $50,000 | $1,198,750 |
| 4 | -20% | $50,000 | $909,000 |
Same average return. Same total withdrawal. But Retiree B has $81,500 more after just four years. Over a 30-year retirement, this gap compounds dramatically.
Interactive chart: sequence-of-returns
Two portfolios with identical average returns but opposite sequences
Coming soon
Why It Matters
Sequence risk is the primary reason why the 4% rule can fail — and why Monte Carlo simulation is essential for retirement planning. A fixed-return spreadsheet projection cannot capture SORR because it uses the same return every year.
The first 5–10 years of retirement are the "danger zone" for sequence risk. If markets perform poorly during this window while you are withdrawing, the damage is often irreversible. This is why:
- Dynamic spending strategies (like Guyton-Klinger) that cut spending in downturns dramatically reduce SORR
- The bucket strategy maintains a cash reserve to avoid selling equities at depressed prices
- Some researchers advocate a rising equity glide path — starting retirement with less equity and increasing stock allocation over time
Mitigating Sequence Risk
Strategies to reduce SORR impact include:
- Lower initial withdrawal rate: starting at 3.5% instead of 4% provides a larger buffer
- Flexible spending: reducing withdrawals by 10–20% during bear markets
- Cash reserve: keeping 1–2 years of expenses in cash to avoid forced selling
- Diversified income sources: Social Security, pensions, and annuities provide floor income unaffected by market returns
Frequently Asked Questions
- When is sequence-of-returns risk the most dangerous?
- The first 5 to 10 years of retirement are the 'danger zone' for sequence risk. Poor returns during this window — while you are actively withdrawing — can permanently impair the portfolio's ability to recover. This is why the transition into retirement is the highest-risk period.
- How can I protect against sequence-of-returns risk?
- The most effective strategies include: using a dynamic spending approach (like Guyton-Klinger) that cuts withdrawals during downturns, maintaining 1–2 years of cash reserves, diversifying income with Social Security and pensions, and considering a rising equity glide path that starts retirement with less stock exposure and increases it over time.
- Does sequence-of-returns risk matter during the accumulation phase?
- No. When you are only adding money to a portfolio (no withdrawals), the final balance is the same regardless of the order of returns. Sequence risk only emerges when you combine volatile returns with regular withdrawals — which is exactly what happens in retirement.