As you approach retirement, there exists a zone of paramount importance that can either ensure the retirement you've envisioned or plunge you into financial uncertainty. Often underestimated and misunderstood in the financial planning phase, the Retirement Risk Zone (RRZ) can make or break your retirement. For many, retirement is viewed as a one-time event, somewhere in the distant future, often catching individuals off-guard and with little preparation.
The Retirement Risk Zone
Retirement Risk Zone
The Retirement Risk Zone is a pivotal and delicate phase at the heart of your financial journey. This zone typically encompasses ten years of pre and post-retirement. During these 20 years, your financial life undergoes a significant shift, transitioning from focusing on savings and accumulation to spending and distribution. Additionally, those in this zone are more exposed to losses resulting from market downturns, putting them at a greater risk of outliving their savings.
The Financial Challenges
The danger of overlooking the Retirement Risk Zone must be emphasized more. Here's why:
• Longevity Risk: Failing to pay close attention to your retirement savings during this phase can lead to running out of money too soon in retirement. The nightmare of returning to work due to financial strain can become a stark reality, especially if that was never your intention.
• Market Volatility: The years leading up to retirement are not the time for high-risk investments. This is necessary to avoid exposing your portfolio to the sequence of return risk, potentially eroding your savings when needed most. A stock market correction in this zone can erase several years in the duration of your portfolio, leading you toward longevity risk.
• Sequence of Returns: Average portfolio returns can be misleading as they can lead you to assume that your portfolio has had consistent yearly returns. However, this rarely happens. More important is the sequence of your portfolio returns relative to the market cycle and your retirement date. For example, experiencing consecutive and poor returns near or during your drawdown stage can significantly shorten your savings lifespan.
• Inflation: Ignoring inflationary pressures in this zone means eroding your savings purchasing power as you increase your drawdown rates to keep up with your intended lifestyle.
Maneuvering through the Retirement Risk Zone
If you are currently within the retirement risk zone, recent market performance and inflationary pressures should motivate you to stress-test your lifestyle objectives and financial plan. Additionally, you may have to consider the following:
• Delayed Retirement: You may need to reevaluate when to retire to soften the impact of potential losses during those crucial years leading up to and in retirement. The delay can reinforce your portfolio by maintaining or boosting your savings rate to avoid compromising your retirement lifestyle. You can learn more on this topic by reading my article on the argument for delayed retirement.
• Expected Retirement Income: Withdrawing in market downturns worsens your losses and your portfolio's sustainability, further impacting the amount of money available to withdraw in later retirement years. If you have defined benefit pensions and qualify for CPP & OAS, accessing your pensions early to reduce the impact on your portfolio's value may be worthwhile.
To protect your financial assets and address economic challenges inherent in the retirement risk zone, your financial planner has the tools that allow you to test multiple What-If scenarios that can model hundreds of unique outcomes. Such scenarios include but are not limited to stress testing the chances of achieving your desired lifestyle should you encounter market corrections or high inflation during the risk zone or your lifetime. I encourage this exercise, as exploring multiple future outcomes gives you the space to think clearly and make decisions based on evidence instead of constantly reacting to life circumstances.
Retirement is a continuous lifetime transition, not a one-time event. The sooner you face it, the quicker you identify your financial blind spots. I am here to guide you through your retirement journey. Don't hesitate to reach out if you have questions about your retirement risk zone.
Warm wishes on Canada Remembrance Day to everyone.
