How to Avoid Dollar-Cost Ravaging Your Retirement Savings

It may look like a typo, but dollar-cost ravaging is a real thing — and a serious problem for some retirees. As you may have guessed, the name is a takeoff on dollar-cost averaging, an investing strategy that involves buying a security on a regular basis regardless of share price. 

Dollar-cost ravaging describes what can happen to a portfolio when withdrawals are made without accounting for market highs and lows. Retirees who follow the 4% rule are especially susceptible to dollar-cost ravaging.

Here’s what you need to know:

Dollar-Cost Averaging vs. Dollar-Cost Ravaging

Investing a fixed amount on a regular basis is one of the best ways to build a retirement nest egg. Dollar-cost averaging is a popular savings strategy because it takes the emotion out of investing. You simply invest the same amount regardless of whether the market is up or down and your savings compounds over time. 

Unfortunately, this strategy doesn’t work in reverse. Withdrawing a fixed amount regardless of market conditions can have the opposite effect, “dollar-cost ravaging” your portfolio balance. During a down market, more securities must be sold to maintain a set income level. With fewer assets to compound or pay dividends, the portfolio can fall into a downward spiral, especially if the down market occurs early on in the investor’s retirement

The 4% Rule

The 4% rule is a drawdown strategy that made sense when life expectancies were shorter. It’s straightforward and easy to execute:

• Upon retirement, add up all your assets.
• The first year, withdraw 4% 
• The following year, withdraw 4% adjusted for inflation
• Repeat

The chart below shows the 4% rule in action. The example retiree has a portfolio valued at one million dollars when they retire. 

• The first year, withdraw 4% ($40,000). 
• The following year, withdraw $40,800 (4% plus an additional 2% for inflation). 
• Repeat.

If the retiree lives for more than 30 years or if there’s a bear market early on, this person could outlive their savings. That’s why the 4% rule should be just a starting point, not an unbreakable rule.

How to Avoid Dollar-Cost Ravaging

Instead of asking, “how much return can I expect?” switch your focus to, “which investments will generate reliable income?” The income could come from dividend-paying stocks, annuities or other fixed-income investments.

It is crucial to ensure that your portfolio is properly diversified between US stocks, bonds, and non-US stocks. A well-diversified portfolio is the best way to reduce risk in the event of a potential market correction while still potentially maintaining upside for the future. A financial advisor can help you create a portfolio designed to withstand the ebbs and flows of the market.

If you're already retired, a dynamic approach can significantly extend the life of your retirement savings. Instead of withdrawing a pre-determined amount every year, calculate how much (or how little) you can withdraw depending on whether the market is up or down.

Let’s Assemble

Your withdrawal strategy is just as important as your savings strategy. We can help you craft a wealth of life plan customized to your needs and goals. Contact us online or give us a call at (415) 541-7774.

Related Reading:

• Retirement Planning: Different Strategies for Different Goals
  
• 401k Withdrawal Rules: Know Before You Cash Out
• Retirement Savings By Age: The Benefits of Investing Early

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