The Impact of Market and Spending Shocks on Retiree Portfolios

Retiree portfolios in decumulation are especially exposed to bad timing. Christine Benz, director of personal finance and retirement planning at Morningstar, and Amy Arnott, CFA®, a Morningstar portfolio strategist, model what happens when market losses or inflation spikes hit early in retirement rather than later. Nearly 70 percent of the failed trials in their simulation had already lost portfolio value by the end of year five, and portfolios that survive those first five years with gains have only about a 4 percent chance of later running out of money. They also model two spending shocks specific to retirement: a spike in inflation in the early years, and long-term-care costs, which 43 percent of baby boomers are projected to incur at an average cost of $242,373.

Key Takeaways

1. Nearly 70 percent of failed 30-year retirement simulations had already lost portfolio value by the end of year five; sequence-of-returns risk is concentrated early.
2. Portfolios that gain value through the first five years of retirement have only about a 4 percent chance of later depleting, even with fixed real withdrawals.
3. A retiree starting in 1966, 1969, or 1973, all periods of unusually high early inflation, depleted a 60/40 portfolio in 19 to 20 years at a 5 percent withdrawal rate.
4. Modeling a long-term-care spending shock in years 29 and 30 of retirement cuts the safe starting withdrawal rate from 3.9 to 3.5 percent; 43 percent of baby boomers are projected to incur average long-term-care costs of $242,373.