If you are a Baby Boomer you remember that you weren’t supposed to trust anyone over 30. Born between 1946 and 1964 Boomers in 2017 now range in age from 53 to 71. When are over 70 and have any money in a traditional retirement account you must start taking Required Minimum Distributions for the rest of your life and those withdrawals are on automatic pilot for increases every year for as long you live.
Up until the time you make work optional you probably took advantage of dollar cost averaging. It is a smart and simple practice that can help protect your investments against fluctuations and downside risk in the market. Instead of attempting to time the market with one investment you buy with a fixed dollar amount on a regular schedule, like monthly. By sticking to your investing schedule when the market turns south and your investment falls in value, you enjoy buying more shares at lower prices are cheaper. Dollar-Cost Averaging does not assure a profit or protect against loss in declining markets. Such a plan involves continuous investments in securities regardless of fluctuating price levels of such securities and the investor should consider his/her financial ability to continue purchases through periods of low levels.
“Real life is never average. Especially when it comes to financial planning,” wrote Terry Savage at The Huffington Post on February 22, 2016. Savage used the example of the man who drowned while walking across the river with an average depth of 3 feet. The river is 8 feet deep in the center and 6 inches deep near the banks. The “average depth” of 3 feet wasn’t a factor at all. As Sam Savage explained in his book The Flaw of Averages, “Plans based on average assumptions are wrong, on average!” Savage explains why we “underestimate risk in the face of uncertainty.”
Right now, uncertainty is everywhere. No one can see the future, but odds are favorable you will live longer than you think. The time is now to start reviewing your tolerance for risk and your appetite for full participation in severe market declines (particularly while taking income) when you are planning for your financial success.
As you can see in this chart above, when you don’t need the money to live on or you are adding to your positions, short-term volatility may have less of an impact to an investor. With the chart below that accounts for withdrawals and declines you can see how things change dramatically.
While the average annual returns are identical to the first scenario, notice the impact to the bottom line with the first two years in negative territory. In fact, we suggest in spite of your habits and family genes that you plan to live to age 100. So imagine waking up to no money at 88 years old. No one knows when the declines may show up in relationship to when you begin spending your life savings. Here’s what we do know. From 1926 through 2016 the average bull market period lasted 8.9 years with an average cumulative total return of 490%. The average bear market time frame lasted 1.3 years with an average cumulative loss of -41%, according to First Trust Advisors L.P., Morningstar. To keep the math simple let’s suppose the account decline due to any combination of market loss and annual withdrawal resulted in the total draw down of -50%. If $1,000,000 at the beginning of the year ended that year at $500,000 you need 100% of the ending balance to get back to your starting balance. If you don’t like those odds let me suggest that you look for strategies that may have limited declines in bad years. One way to do your homework is to look for accounts that were off -20% or less in 2008. In that scenario a gain of as much as 25% would be needed to get back to even. We can agree that would be better odds as compared to needing a gain of 100%. Another way to look at it is to look for examples where investor’s accounts may have begun 2008 with a cash balance of 5% or 95% invested, but finished the same year with 60% cash or 40% invested in risk assets. I am suggesting that you determine how long it took for your account to get back to your previous high. Then look further to see if there were strategies that may have less time to get back to early 2008 values. Rather than try making such tactical moves yourself, look for the systems that did the work for you, no matter who (you or your broker) was too busy or on vacation. Hold and hope may become your foe when you do need the money.
The S&P 500 Index is an unmanaged index of 500 stocks used to measure large cap U.S. stock market performance. Investors cannot invest directly in an index. Index returns do not reflect any fees, expenses, or sales charges.
The opinions voiced are for general information only. They are not intended to provide specific advice or recommendations for any individual and do not constitute an endorsement by NPC. To determine which investments may be appropriate for you, consult with your financial professional. Please remember that investment decisions should be based on an individual’s goals, time horizon, and tolerance for risk.
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