Sequence of returns risk: why the first five years matter

Sequence of returns risk is the danger that markets fall early in your retirement, while you're withdrawing money, so you sell investments at low prices and that money isn't there when markets recover. The first five years or so matter most because your balance is at its largest and every dollar you sell in a slump is a dollar that can't bounce back.

The same returns in a different order can leave you hundreds of thousands of dollars apart. Below is a simple example, why the early years carry the most weight, and what people do about it.

This is general education, not financial advice. The example uses made-up returns to show the shape of the math. Real markets don't follow a script, and past results don't promise future ones.

A simple example

Ana and Ben are made up. Each retires with $1,000,000 and takes out $40,000 a year, raised with inflation, so everything here is in today's dollars. Over their first 10 years, they earn exactly the same 10 returns after inflation:

−20%, −10%, 5%, 8%, 10%, 12%, 10%, 8%, 5%, 7%

The only difference: Ana gets them in that order, bad years first. Ben gets them reversed, bad years last.

Same returns, same spending, same average. After 10 years, Ana has roughly $186,000 less. If both then earned a steady 5% a year after inflation for 20 more years, Ana would end year 30 with about $630,000 and Ben with about $1,123,000.

Without withdrawals, both would have ended the 10 years with the same amount, about $1,343,000. The withdrawals are what make the order matter.

Why the first five years carry the most weight

In the early years, three things line up against you:

1. Your balance is at its biggest, so a 20% drop is the largest dollar loss you'll ever see.
2. You're selling into the drop to pay the bills. Each sale takes a bigger bite of a smaller portfolio.
3. You have the most years left, so a smaller base has to stretch the furthest.

A fall 20 years in still hurts, but by then your money has had decades to grow and has fewer years left to cover. That's why the classic 4% rule was set by the worst starting years in history, not the average ones.

Ways people protect the first five years

• Keep a cash or bond buffer. One to three years of spending set aside means you don't have to sell stocks after a fall. The bucket strategy is one way to organize it.
• Be ready to spend a little less. Trimming spending by 5% to 10% after a bad year, until markets recover, buys back a lot of safety.
• Start a little lower. A 3.5% start instead of 4% gives more room, especially for a 40- or 50-year retirement.
• Earn a little. Part-time income in the early years means you sell less when prices are down.
• Shift your mix gradually. Some research suggests holding more bonds at the start of retirement and fewer later, sometimes called a bond tent or rising equity glide path, to cushion the early years (Pfau and Kitces, 2014).
• Look at conditions when you start. uFIRE's daily Retirement Timing Meter reads six public signals tied to this risk. Retiring in a bear market covers what people do if a downturn arrives right at the start.

Common questions

What is sequence of returns risk in simple terms?

It's the risk that bad market years come early in retirement, when you're taking money out. You sell investments at low prices to pay the bills, and that money isn't there when markets recover. The same returns in a better order would have left you with more.

Why are the first five years of retirement the riskiest?

Your portfolio is at its largest, you're selling to cover spending, and you have the most years ahead. A big drop then shrinks the base that has to last the rest of your life. A drop later does less damage because there are fewer years left to fund.

Does sequence of returns risk matter before retirement?

Much less. If you're saving and not withdrawing, the order of returns doesn't change where you end up. It matters most in the years just before and after you stop working, when your balance is large and withdrawals are about to start.

How do you protect against sequence of returns risk?

Common tools are a cash or bond buffer for the first few years, flexible spending after bad years, a lower starting withdrawal rate, part-time income and holding more bonds early in retirement. Most people combine a few.

Is sequence risk worse for early retirees?

Usually, yes. A 40- or 50-year retirement gives a bad start more time to compound, and early retirees often have no Social Security or pension yet to cover part of their spending. That's why many plan on a lower withdrawal rate and more flexibility.

Can you test sequence of returns risk yourself?

Yes. uFIRE's withdrawal rate explorer lets you add a few bad years at the start of retirement, then see how long your money lasts and how much spending a little less buys back.

Next step

Test a rough first few years against your own savings and spending.

Try the withdrawal rate explorer →