If you are in your late 50s or 60s and either contemplating retirement or already in it, this article is worth your time, if only as a refresher.
I am writing it now because investment markets have climbed steadily to record highs. US markets have posted double-digit returns in each of the past three calendar years (26% in 2023, 25% in 2024 and 18% in 2025) and 2026 is tracking at a similar pace. Runs like that do not continue indefinitely. At some point, something gives.
What sequencing risk actually is
Most people understand market risk, the ups and downs in value. Far fewer are familiar with sequencing risk, which is a different problem altogether.
Sequencing risk is about the order in which your investment returns arrive. Good returns early, versus poor returns early, can be the difference between sustainable retirement cash flows and dependence on the Age Pension. The effect really is that great.
It occurs when you experience poor investment returns at the same time as you are drawing down from your superannuation pension account. The period of greatest exposure is the two to three years either side of retirement, which describes a great many of our clients.
Example Scenario
The clearest way to show this is with two retirees. Both start with $300,000. Both draw $15,000 a year. Both experience exactly the same eight annual returns, just in the opposite order.
Both retirees drew the same $120,000 of income. Both earned the same simple average return of 5% a year. Retiree B finished with $43,515 more, around 17% ahead of Retiree A.
And at its widest point, in year four, the gap between them was $174,082 which is more than half of what they each started with.
Nothing separated these two people except the order in which the returns turned up.
What I saw during the GFC
During the Global Financial Crisis, I watched sequencing risk play out first-hand and saw differences of 20–30% in the value of what were essentially the same portfolios.
The saddest examples were people who had invested through their industry superannuation fund and, on retirement, converted an accumulation account (generally a balanced option with 70–80% in growth assets) straight into an account-based pension, and began drawing an income.
As markets fell further and further, they kept drawing and crystallising losses with every payment. They could not stop, because they needed the money, and they could not return to work, because there were no jobs.
The damage could not be repaired. Their working lives were over and there was no time to recoup.
What struck me most was that nobody had explained to them that superannuation and investment assets need to be positioned differently in retirement than during accumulation. Nobody had suggested a separate strategy was required, or that advice was worth seeking. They were referred to me only once they were already in the predicament.
What is involved in managing it
Proper retirement planning needs to begin two to three years out, particularly in a climate like this one, where asset values have run hard and the risk of a correction is real.
The starting point is quantifying the drawdown need: how many dollars per annum, and for how long. The first ten years of retirement are typically more expensive than the next ten, because you are in the “go-go” phase. Many of you will have heard me describe this stage of life before. You will be drawing more, so the risk is higher.
Using financial modelling, we can calculate the drawdown rates required to deliver the income you need, and just as importantly, how your superannuation investments should be configured to reduce sequencing risk.
The bucket strategy
We manage sequencing risk using what we call a bucketing strategy. Retirement assets are separated into short, medium and long-term buckets, each doing a different job:
- Short-term bucket — pays your income stream for the next two to three years, held in stable assets so you are never a forced seller in a falling market.
- Medium-term bucket — resupplies the short-term bucket with cash as it is drawn down.
- Long-term bucket — left alone and reinvested wherever possible, so compounding can do its work. Periodically, if it has performed well, we harvest some of those returns to restore the medium-term bucket.
The point is straightforward: you are never selling growth assets at the bottom to fund next month’s income.
I will explain more on this in the next newsletter.
Where to from here?
It is difficult in a short article to convey the full gravity of this issue or everything involved in mitigating it. Hopefully it has given you some insight.
If you are two to three years out from retirement and looking to draw income from your superannuation or investment portfolios, I would strongly encourage you to speak with us and have your position appraised.
Sequencing risk remains, by far, one of the most misunderstood and hidden risks in retirement.