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Overcoming Sequence of Return Risk in Retirement Income

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When it comes to retirement income planning, considerations underlying a client’s accumulation of assets during working years traditionally take center stage.  Equally important, however, are the issues that a client will face regarding investment decisions once he or she has reached retirement age—but unfortunately, in many cases these concerns are overlooked when determining how best to structure the client’s retirement assets.  Sequence of return risk is one of these critical, yet too often overlooked, decumulation-stage issues that can make or break your client’s retirement income withdrawal strategy—luckily, this type of risk can often be diminished by incorporating annuities into the mix, safeguarding the client’s retirement resources in the process.

What Is Sequence of Return Risk?

Sequence of return risk is a market volatility issue surrounding the order in which returns on a client’s investments occur.  Essentially, if a greater proportion of low or negative returns occur during the early years of retirement, the client’s overall returns are going to be lower than if those negative or low returns occurred at a later point in the client’s (and the investment’s) lifetime.

Logically, this is because the investment has had less time to grow during the early years of ownership, so there is a danger that negative returns could even cause a portion of the principal investment to be lost.  Even if the return is simply lower than average in the early years, the investment will generate an overall lower return because the investment will gain less value early on, meaning there will be a lower account value to generate growth even in later, higher return periods.

When the client is making withdrawals from his or her investment accounts, this risk of outliving the retirement assets is magnified when negative returns occur in early years—especially considering today’s increased life expectancies.

An Annuity Solution

Sequence of return risk is one that can be lessened, however, with a well-diversified portfolio that includes income guarantees.  While many clients will continue to generate returns in the equity markets once they have reached retirement age, using an annuity product (or combination of annuity products) that provides a guaranteed level of income can help provide peace of mind by establishing a “floor” to provide for the client’s minimum expenses throughout retirement.

By allocating a portion of a client’s retirement assets to an annuity product with a rider that provides for a guaranteed level of income, the client is able to temper the risk that the market will perform poorly in the early years of retirement, diminishing his or her asset base.  Popular income guarantees include guaranteed lifetime withdrawal benefit riders (GLWBs) and lifetime income benefit riders (LIBRs), both of which can attach to an annuity product in order to mitigate sequence of return risk in the client’s remaining portfolio.

GLWBs guarantee that the client will be able to withdraw a certain percentage of the value of the client’s benefit base, which has been growing by a guaranteed amount over the course of the deferral period (the guarantee is commonly somewhere between 4 and 8 percent).  LIBRs are riders pursuant to which the annuity carrier agrees to pay income over the client’s lifetime in the form of an annuity. The income stream that results once the client annuitizes the contract is also drawn from a benefit base, but the carrier uses the client’s life expectancy to determine the value of the guaranteed income payments.

Although many financially sophisticated clients may resist the idea of surrendering liquidity by investing in an annuity product, this is one area where an annuity can make sense—by providing a set level of income that the client will be able to rely upon regardless of the market’s performance during his or her years of retirement.


Once a client reaches retirement age, sequence of return risk can play an even more important role than it would during the client’s earning years, potentially jeopardizing a portion of the client’s principal investment base—however, a well crafted annuity guarantee strategy, coupled with Social Security benefits, can provide the client with a cushion to significantly mitigate the impact of negative returns early in retirement.

Originally published on National Underwriter Advanced Markets. National Underwriter Advanced Markets is the premier resource for financial planners, wealth managers, and advanced markets professionals who provide clients with expert financial and retirement planning advice.

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