7 Reasons to Avoid Large Losses in Retirement

When Baby Boomers are in retirement their number one goal should be to avoid large losses. In Retirement this is more important that chasing returns.

The reasons for avoiding large losses are;

  • You may not have enough income from other sources to replace the losses.
  • You do not have time on your side to replace those losses.
  • You are drawing down your nest egg by taking a pension, which is in effect increasing the losses you are trying to recover from.
  • You have less money left to invest when the good times return to generate returns to maintain your capital.
  • You can suffer such significant losses that even if the market comes back there is not enough capital left to generate enough returns to offset your pension, inflation, taxes and fees.
  • You may suffer enough of a loss and the market may take so long to return that you have to significantly lower your living standards just to ensure you do not run out of money.
  • We may be heading for a long term bear market after a 25 year bull. The point is no one knows and so you should protect yourself.

Buy and Hold may work for our kids with years to go before retirement and who are still contributing to their nest egg. It definitely doesn’t work for Baby Boomers who are in retirement and not contributing.

The Financial Advisers tell us to buy and hold for the long term. 30 year of life expectancy after retirement at 60 is long term. But it is irrelevant if you are distributing your nest egg, not accumulating it.

In accumulation phase if the market drops 40% and you have 30 years to retirement that may be worth the risk. You have 30 years to replenish your nest egg and statistically the market should give you good returns at some point over that period.

However if you are retired and not contributing but taking money out of your nest egg to live on, then long term is not relevant. If you suffer large losses in the short term at or immediately after retirement your will be in serious danger of losing your nest egg.

Baby Boomer need to focus on the dollar amount lost and not the percentages when in retirement. Assume you have managed to save a nest egg worth $1M. If you use the wealth manager rule of thumb here and divide your $1M by 25 then you could budge to pay yourself $40,000 a year.

Now if you retired in 2000 when the stock market in the US dropped by 40% over the nest three years your nest egg would be down by $400,000. That $40,000 per year and represents 10 years of retirement income gone.

It took until late 2007 to recover most of that money all due to an unprecedented and unlikely to be repeated bull market.

Then in November 2007 the stock market began to tumble again. At one point it had lost over 20% of its value.

So those Baby Boomers that had just got their capital back now suffered a 20% loss. So they are back to a $200,000 loss on their nest egg. That’s 5 years of income. Not only that their house price has dropped significantly too.

I’ve kept the numbers simple here to try and show how the math of losses works against Baby Boomers in retirement. I took no account for inflation, asset allocation, fees, social security, pensions or taxes. However some Baby Boomers did really lose 40% of their nest egg even in properly diversified and asset allocated, professionally managed portfolios.

Respect risk and protect yourself so you avoid larger losses in retirement. If you have large losses right now though, don’t cash out. Find ways to exit investments as fake rallies and dead cat bounces reduce your losses momentarily. Don’t allow yourself to accept a loss passively. Find ways to recover and limit them.

Analyse your portfolio and cash out any asset class that is under 10% in losses and build yourself an income ladder using safe investments like term deposits and the like. At the very least put in place a strategy to limit losses to 10% or offset losses with reverse index funds and the like.

No one has any idea when this current stock market turmoil will end. If you are in retirement your nest egg may not survive a 3-5 year bear market.

So please give yourself 3-5 years of income from save assets then you can probably stick with the assets with large losses and give the market time to come back.

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