Friday , 19 April 2024

Here’s How To Set Up A Risk Averse Retirement Plan (+3K Views)

One of the most difficult challenges of transitioning to retirement from the workingretirement-planning-300x300 world is a complete change in mindset with regards to an investment portfolio. You go from being a saver to a spender. There’s no future income or nearly as much time to soften the blow from bear markets. Growth is still necessary but you have to be cognizant of the fact that you’ll need to protect some of your assets for spending purposes. Here’s an interesting case study in how to approach this change in mindset.

The above introductory comments are excerpts from an article* by Ben Carlson ( entitled The 4 Year Rule.

The following article is presented by Lorimer Wilson, editor of (Your Key to Making Money!) and the FREE Market Intelligence Report newsletter (sample here).  This paragraph must be included in any article re-posting to avoid copyright infringement.

Carlson goes on to say in further edited excerpts:

One of my readers, a retiree named John Thees, offers an interesting case study in how to approach this change in mindset. John and his wife retired in the spring of 2000, just before the bursting of the tech bubble.

The timing couldn’t have been worse as stocks in the U.S. over the ensuing decade went on to deliver some of the worst returns on record. Studies have shown that a market crash at the beginning of retirement can be deadly for a portfolio that could have to last for another three decades or more, yet John and his wife survived the bursting of the tech bubble as well as the great financial crisis a few years later because they had a plan in place that accounted for the possibility of down markets.

Here’s John with a condensed version of how they did it:

Please note that what I say below is based on the following two key assumptions about the stock market.

1. Major stock market downturns last from 8 to 24 months (average length is 16 months).

2. Major stock market upturns last 4 to 8 years (average is 5 to 6 years) and the market rises faster during the first two years of an upturn.

The Strategy

  • 5 years before retiring start to accumulate a cash reserve (money market funds, CDs) within your retirement plan if possible (to defer taxes on interest).
    • Your goal should be to accumulate 4 years of living expenses, net of any pension and Social Security income you will receive, by your retirement date.
  • When you retire, your portfolio should consist of your 4-year cash reserve plus stock mutual funds allocated appropriately.
  • If the stock market is up (at or relatively close to its historical high level) take your withdrawals for living expenses only from your stock mutual funds, and continue to do so as long as the market remains relatively steady or continues to rise.
    • Do not react to short-term minor fluctuations up or down and, as you do this,
    • be sure to keep your allocation percentages more or less at your desired levels by drawing down different stock mutual funds from time to time.
  • If the market is down significantly from its historical high levels or has been, and still is, falling fast when you retire, take your withdrawals for living expenses from your 4 years of living expenses cash reserve.
  • In the event you are taking withdrawals from your 4-year cash reserve due to being in a severe, long-term falling market,
    • when the market turns up again, continue taking your withdrawals from the cash reserve for an additional 18 months to 2 years to allow the market to rise significantly (the market almost always rises fast during the first two years of an up market period) before switching back to taking withdrawals from your stock mutual funds.
    • then return to living off of your stock mutual funds
    • then replenish your now significantly drawn down cash reserve over the ensuing 18 months to two years in order to bring it back up to its required level.
    • Once the cash reserve is fully replenished you are ready for the next severe market downturn when it inevitably occurs.”

What do you think?

There are no easy answers on how to go about setting the correct risk tolerance in retirement because everyone’s portfolio size and distribution needs will vary but I like the fact that John approached this decision from a spending perspective based on worst case scenarios (that basically came true). He used the Charlie Munger method of inverting a problem and looking at it backwards to come up with a reasonable solution.

It seems like much of the retirement planning advice out there focuses on distribution rates, the percentage of income to replace, asset allocation changes or a determination of how much risk is suitable for a retiree’s portfolio without ever considering actual living expenses or spending needs.

There are no hard and fast rules on these decisions so there can be some finesse involved in the implementation of this type of strategy.

John has a much more detailed piece with more specifics on how he has used and refined the four year rule so if anyone’s interested feel free to send me an email request and I’ll pass it along.

Editor’s Note: The author’s views and conclusions in the above article are unaltered and no personal comments have been included to maintain the integrity of the original post. Furthermore, the views, conclusions and any recommendations offered in this article are not to be construed as an endorsement of such by the editor.


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