Sequence risk: why the order of returns matters more than the average

Every projection on this site, and on every other site, assumes a constant rate of return. It is a necessary simplification and a genuinely useful one during the years you are accumulating. It becomes dangerous at the point you start withdrawing.

The same average, two outcomes

Consider two people who retire on the same day with the same corpus, withdraw the same inflation-indexed amount, and earn exactly the same average annual return over twenty years. The only difference is the order: one experiences the poor years at the beginning, the other at the end.

The one who meets a bad market in the first three years may exhaust the corpus a decade earlier. Withdrawals made from a portfolio that has fallen sell more units to produce the same rupees, and those units are not there to recover when the market does.

What actually helps

1. Hold two to three years of planned withdrawals in cash or short-duration debt, so a bad year does not force a sale of equity.
2. Reduce equity exposure gradually in the years approaching retirement rather than at a single point.
3. Be willing to reduce discretionary spending in a poor year. Flexibility is worth more than any asset allocation decision.
4. Use a conservative initial withdrawal rate. The lower the starting rate, the less any particular sequence matters.

Notice that three of those four are behavioural rather than financial. That is usually the case.