Luck & Sequence of Returns

Last week’s topic was taxes. This week I’ll talk about luck, which can matter nearly as much to our financial lives. Taxes and luck can go hand in hand – with planning being the link.

The following are highlights from TGIF 2 Minutes one year ago entitled, The Luck Factor otherwise known as “Sequence of Returns.”

Despite all of the calculations involved in investing, there is still an element of luck involved. A specific term for this luck is, “Sequence of Returns.” Otherwise known as risk of timing, which can be the #1 most important concept if you ever wish to spend your savings – and have them last as long as you need.

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Photo by Roman Koval on

Obviously, there are numerous risks and concerns with any portfolio or plan. One of these risks is “sequence of returns.” The term is not as complicated as it may sound! Sequence is a fancy word for timingReturns means what the portfolio earns, whether negative or positive. So, the timing of negative or positive returns becomes a significant risk when you begin to spend your portfolio rather than continue to plow money into it.

[NoteSpending your portfolio in the near or distant future will also trigger taxes. Last week’s TGIF 2 Minutes summarized the “sting factor” of taxes resulting from too much in a Traditional 401k someday.]

Yes, at some point, most of us will actually spend the money we worked our butts off to save. This spending will happen sooner or later, (and you may already be in that stage) but optimally at a time when the portfolio can afford to be spent.

Have you ever heard of the “4% Rule”? The concept of being able to – someday – comfortably spend 4% of a portfolio year in and year out while still being able to preserve that “nest egg” portfolio? For example, if you accumulate $1,000,000 someday, then move into “spend” mode, this equates to being able to spend $40,000 per year from the portfolio and preserve the $1,000,000 nest egg. Accumulations of $5,000,000 and more mean similar math and it becomes tempting to spend more than the 4% or, in the case of the $5,000,000 portfolio, more than $200,000 per year.

Here is where luck comes in. What if, at the time you decide to retire or spend a chunk of your savings, the market return is suddenly negative? And not just negative but like 2008-2009 negative?? That timing – or “sequence of [negative] returns” – would be really poor! This is a true story I have experienced with clients.

Luck comes in both good and bad varieties. You could have been “good lucky” and stopped working in 2016 – with two amazing years of stock returns to boost your nest egg right from the start. OR, you could have been “bad lucky” and out of work or first retired in 2007-2008 where you had to hunker down not able to buy new things or not buy a bigger house… or worse.

Planning is the way around both good and bad luck! (Planning can also be a way to minimize taxes.) One of the simplest strategies is having an emergency fund or “buffer” of cash available for both taxes and bad luck. More complicated solutions involve various types of income guaranteed by insurance or annuity contracts. And there are all sorts of solutions in between.

Understand “sequence of returns”, otherwise known as good and bad luck, and please let me know if I can break it down for you. Planning is one of the best defenses.


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