How to Defend Your Retirement Against Sequence of Returns Risk

Written by John Macy, Financial Coach, MBA, Retirement Income Certified Professional® (RICP)

Part 1b of the Retirement Risk Management Series

Executive Summary  

• The Pivot: Surviving the Retirement Risk Zone requires moving away from rigid, static withdrawal rules and embracing dynamic, strategic planning.  

• The Core Tactics: Implementing dedicated cash buffers, flexible spending guardrails, building a guaranteed income foundation, and diversifying the portfolio with non-correlated alternative assets provides multi-layered insulation for your wealth.  

• The Ultimate Goal: Ensuring that you are never a forced seller of depressed equities during a market downturn.  

This is the second of a two-part series of articles on the Sequence of Returns Risk (SoRR). In Part 1 of this series, we analyzed how SoRR acts as a hidden threat during the early years of retirement. We saw that a severe market downturn paired with rigid, static withdrawals can permanently and rapidly deplete a portfolio — even if the market eventually rebounds over the long term.

Knowing that the first five years of retirement are the most mathematically fragile, the question shifts from "What is the risk?" to "How do we neutralize it?"  

The goal isn't to eliminate market volatility. That's impossible. The goal is to ensure that market volatility never forces you to sell long-term investments at depressed prices to meet everyday living expenses. Every successful strategy for mitigating Sequence of Returns Risk accomplishes that objective in one way or another.

To insulate your retirement income from market volatility, you need a coordinated defensive strategy. Here are four actionable strategies to protect your portfolio during the critical transition into retirement.

Layer 1: Protect Your Spending Using a Dedicated Volatility Buffer Fund

One of the most direct ways to neutralize SoRR is to ensure you do not have to liquidate equities or long-term bonds when they are down. You can achieve this by structural segmenting or "bucketing" your assets based on when you will actually need the cash. Many people utilize the "Bucket System" for peace of mind.

Historically, most bear markets have been substantially shorter than the retirements they interrupt, although recoveries can take several years. The U.S. stock market has rarely had a losing 10 year period in the last 100 years. Based on this insight, many people will create a highly liquid, safe buffer of 3-7 years of spending and invest the remainder of the portfolio in a diversified long-term portfolio, such as a stock portfolio or a balanced stock/bond allocation. The appropriate size depends on risk tolerance, valuation levels, other income sources, and personal preferences.

• The Setup: Carve out 5-7 years' worth of net living expenses (total spending needs minus guaranteed income like pensions and Social Security) and place it into a dedicated safe liquidity bucket.

• The Vehicles: This buffer should be kept strictly in highly liquid, low-risk, yielding instruments. Utilize high-yield savings accounts (HYSAs), short-term Treasury bill ladders, Treasury Inflation-Protected Securities (TIPS) ladders, Certificates of Deposit, or money market funds to preserve purchasing power without taking equity risk.  

• The Strategic Execution: If a bear market strikes in year two of your retirement, you pause systematic withdrawals from your equity portfolio. Instead, you turn on the cash buffer to fund your lifestyle, giving your core investments the multi-year runway they need to recover naturally.  

Example: If you have an annual retirement budget of $100,000 and a combination of pension and Social Security income of $60,000/year then your net spending (from your portfolio) is $40,000/year. If you want to create a 5-year safe liquidity buffer then you would put about $200,000 into the buffer fund in a money market fund or a TIPS ladder. For more information about how to build a TIPS ladder, see this tool. Alternatively, readers can buy 5 different target maturity TIPS ETFs ($40,000 each) from iShares at any stock broker (the 2027 target maturity TIPS ETF is IBID; the 2028 TIPS ETF is IBIE; the 2029 TIPS ETF is IBIF, and so on).

Layer 2: Increase Flexibility in Spending

The traditional 4% rule assumes you take an inflation-adjusted raise every year, regardless of external economic conditions. A far more resilient approach is to inject flexibility into your withdrawal behavior.  

Researchers such as Jonathan Guyton, William Klinger, and later Michael Kitces have shown that retirees who adjust spending modestly after poor market performance often experience significantly higher portfolio success rates than retirees following a completely rigid spending path.

Retirees who use dynamic spending rules can safely sustain higher starting withdrawal rates than those who follow a fixed path. Rather than using a blind mathematical formula, pre-determine exact thresholds for your spending:  

The Rules of Thumb: Agree in writing before you retire that if your portfolio drops by a predetermined percentage (e.g., more than 15%), you will temporarily scale back discretionary spending by 5% to 10%. Delaying a major vehicle purchase, skipping an inflation adjustment, or modifying travel plans for a single year dramatically extends portfolio longevity and keeps your plan intact.  

Read our complete guide to flexible spending strategies for more information.

Layer 3: Reduce Dependence on the Portfolio Through a Guaranteed Income Foundation

Your portfolio does not have to carry the weight of your retirement lifestyle entirely alone. Maximizing guaranteed, non-portfolio income streams automatically lowers your portfolio dependency, which inherently lowers sequence risk.  

One approach to doing this is to create a Guaranteed Income Foundation that covers all of your essential (non-discretionary) spending such as housing, transportation, utilities, normal food purchases, health insurance premiums and typical out of pocket expenditures, etc. Once those are covered, the portfolio itself only has to cover your discretionary spending on things like travel, vacations, eating out at restaurants, hobbies, going to the movies or to shows, etc. Because discretionary spending is flexible by its very nature, retirees pursuing this approach can be much more relaxed about their spending. If the market is down in a particular year they can just forego some of their discretionary spending (perhaps one less vacation, going out to restaurants less frequently, etc.) without having to sacrifice any of their necessary spending.

For many retirees, delaying Social Security may be the single most effective way to increase guaranteed lifetime income. For every year you delay claiming Social Security past your Full Retirement Age (FRA) up to age 70, your guaranteed monthly benefit increases by an inflation-adjusted 8%. 

If you are wondering how you are going to pay the bills during the period read our guide to creating an income bridge. The concept of an "income bridge" is to use a portion of your portfolio to create a guaranteed income stream for the period between now and when you will claim Social Security. That might be anywhere from a couple of years to 10 or 15 years. There are many ways to build the income bridge, but a couple of common strategies are to buy a Single Premium Immediate Annuity or build a TIPS ladder (just for the period of years until Social Security starts).

By using a portion of your portfolio to live comfortably while intentionally delaying Social Security to age 70, you lock in a permanently higher, inflation-protected income foundation for the rest of your life. This permanently reduces the amount of cash your portfolio must generate in your 70s, 80s, and beyond.

For more insight into this topic, read our complete guide to creating a secure retirement income foundation.

Layer 4: Reduce Portfolio Volatility Through Proper Diversification

When traditional broad equity markets and long-term bonds experience synchronized volatility (such as in 2022), a standard 60/40 allocation can leave retirees exposed to sequence risk. True portfolio resilience requires diversifying into assets that don't move in tandem with standard markets.  

The goal isn't simply to own more investments. It's to own investments that behave differently during periods of market stress.

Consider looking beyond long-only equities and traditional fixed income. Integrating alternative asset classes — such as rental real estate, liquid alternatives, trend-following strategies, or managed futures — can provide a powerful structural volatility buffer. These strategies often exhibit low or negative correlation to the stock market, providing "crisis alpha" during extended equity bear markets and protecting your primary withdrawal bucket from steep drawdowns.  (Read our guide to portfolio diversification for a more detailed description of how to diversify your portfolio.)

Layer 5: Periodically Rebalance Your Portfolio

Rebalancing is another overlooked defense against sequence risk. During market rallies, trimming appreciated assets and replenishing your cash reserve naturally forces you to "sell high." During bear markets, replenishing equities from bonds or alternative assets can help position the portfolio for recovery (by buying low) without abandoning the long-term asset allocation. Rebalancing works best when it is rules-based rather than emotional.

Summary: The Five Layers of Sequence Risk Protection

✓ Maintain a dedicated cash reserve for near-term (3-7 years) spending.

✓ Use flexible spending strategies during market downturns.

✓ Build a guaranteed income foundation for essential expenses.

✓ Diversify your portfolio using assets with low correlations.

✓ Rebalance periodically to sell high and buy low.

Transitioning with Genuine Confidence

Sequence of Returns Risk cannot be predicted, but it can be planned for. No single strategy completely eliminates it, and no single tool is sufficient on its own. The most resilient retirement plans combine multiple layers of protection — including adequate liquidity, flexible spending, guaranteed lifetime income, thoughtful diversification, and disciplined rebalancing. Together, these strategies greatly reduce the role that luck plays in retirement outcomes without sacrificing long-term growth potential.

Retirement should be defined by confidence, not by daily anxiety over market volatility. By building a retirement income plan that protects your essential spending while allowing your long-term investments time to recover from inevitable market downturns, you can enter retirement knowing your plan is designed to weather uncertainty—not just during favorable markets, but throughout the decades ahead.

A successful retirement isn't built on predicting the next market downturn—it's built on preparing for it. If you'd like to develop a retirement income strategy tailored to your goals, resources, and vision for retirement, I'd be honored to help you build a resilient plan designed to provide confidence, flexibility, and financial security through every stage of your retirement journey. Contact me or visit https://www.flourishingpathfinancial.com/book-online to book a free Introductory Consultation.

Next in the Retirement Risk Management Series: How to reduce the impact of Inflation Risk on your retirement.

Author:  John Macy, MBA, RICP®

John Macy is a professional financial coach and the founder of FlourishingPath Financial Coaching. With over six years of experience as a financial coach, John helps pre-retirees and retirees design resilient portfolios and income streams for their next act. Read his full story here.