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A Down-Market Survival Guide for Pre-Retirees

If you’re within 10 years of retirement, these eight steps can help you improve your situation and give you peace of mind.

Editor's Note: A version of this article previously published in February 2022.

Editor's Note

A version of this article previously published in February 2022.

When you're earlier in your investment career—in your 20s, 30s, and 40s, and maybe even into your 50s—market volatility is often pretty easy to shrug off. To be sure, some of us get more stressed out in volatile markets than others. But the fact that retirement is still many years in the future means that market volatility is mostly a nuisance, a headache, a stressor at that life stage. Your portfolio has time to recover, and market weakness, even really bad troughs like 2008, isn't likely to make or break your plan.

That all changes in the years leading up to retirement, though, as well as when you're retired. If you haven't taken steps to protect your portfolio and your plan ahead of serious market gyrations, the short-term nuisance of volatility can turn into actual risk in a hurry. Volatility is the fact that markets go up and down as the years go by; it's something that you just have to put up with unless you're willing to settle for the meager yields that guaranteed investments offer. (And I wouldn't recommend that, as inflation could gobble up most of your return and then some.) Volatility becomes risk if those gyrations coincide with a time when you need to spend your money and you haven't taken steps to defend against that possibility.

I've written extensively about how retirees should protect themselves and their plans against weak markets. Pre-retirees, a cohort that I loosely define as people who are within 10 years of retirement, will want to take some of the same defensive measures for the same reasons. But because their retirements haven't yet commenced, pre-retirees have even more tools in their toolkits than retirees who are no longer earning a paycheck and are actively drawing upon their portfolios for living expenses.

If you’re within 10 years of retirement and are spooked about the potential for declining markets to wreak havoc on your plan, here are the key steps to take.

1) See Where You Stand

2) Turbocharge Your Savings

3) Take Control of Your Retirement Date

4) Revisit the ‘Safe’ Portion of Your Portfolio

5) Assess Your Equity Positioning

6) Factor in Withdrawal Sequencing and Social Security Start Date

7) Evaluate Anticipated Lifestyle Changes

8) Assess Your Insurance Safety Net

Step 1: See Where You Stand

I know, you probably don't want to look. But if market gyrations are giving you jitters, your first step is to take a close look at where your retirement plan stands today. Will you have more than enough, or is there a realistic chance that you'll run out during your lifetime unless you take action?

The best way to get your arms around those questions is to sit down with a fee-only financial planner who will consider your plan in its totality, including your portfolio, your anticipated retirement date, tax issues, and Social Security, among other key variables. If you're seeking a quick look at the viability of your plan rather than, or perhaps in addition to, an in-depth assessment, spending rules like the 4% guideline can be a shortcut. Is 3% or 4% of your total retirement portfolio—less whatever your tax rate is—an amount that you could live on, when combined with other income sources like Social Security or a pension?

For a more detailed check on your portfolio's viability, use a retirement calculator like T. Rowe Price's Retirement Income Calculator or Vanguard's Retirement Nest Egg Calculator.

Step 2: Turbocharge Your Savings

If you’re looking at a looming retirement-income shortfall and facing down-market volatility at the same time, that can be an unnerving combination. One of the best ways to seize control is to scrutinize your budget in an effort to step up your savings rate. Of course, investing more in a down market can be a heavy lift, both logistically and psychologically. But if you’re able to put more money to work in the market when it’s down, you’ll have added to your portfolio at attractive valuations, thereby improving its long-run prospects.

On the plus side, many people getting close to retirement have already funded their short- and intermediate-term goals; they may have also paid off their houses and helped their kids pay for college. That can free up discretionary cash for retirement savings. Financial planning guru Michael Kitces notes that "the empty nest transition" provides an opportunity for people in their 50s and 60s to avert a looming retirement shortfall. He estimates that 15 years of saving 30% of income—no small feat, of course—before retirement can help bring a too-small retirement portfolio back from the brink.

You should still favor tax-sheltered vehicles like IRAs and 401(k)s at this life stage, taking advantage of the additional $1,000 (IRA) and $6,500 (401(k), 403(b), 457) in catch-up contributions allowable after age 50. Health savings accounts, which boast tax-free contributions, compounding, and withdrawals, can serve as additional funding vehicles for investors who have already maxed out their dedicated retirement accounts; catch-up contributions to these accounts are available to people over age 55.

Step 3: Take Control of Your Retirement Date

"I just need to work another five years." I've heard that refrain, or a version of it, from many friends and acquaintances over the years. They know the impact of continuing to bring in a paycheck for as long as possible on the total health of their retirement plans. Working longer translates into additional retirement contributions and compounding, delayed portfolio spending, and delayed Social Security filing, to name some of the major financial benefits. And delaying retirement can be especially beneficial if you would otherwise retire into a very weak market environment, in that pulling too much from your portfolio during a market trough can impair how long it lasts. (More on that topic below.)

Yet the truth is, you can't always exert complete control over your retirement date, according to research from David Blanchett, formerly of Morningstar and now at PGIM. Moreover, if a down market coincides with a recession, that could reverse what had been historically low unemployment rates, making it harder to stick with a plan of working longer.

So, how do you help maintain control over your retirement date? It goes without saying that living a healthy lifestyle will help ensure (but certainly not guarantee) that health considerations won’t force you out of the workforce sooner than you had hoped. In addition, you can also take steps to burnish your human capital. That means investing in continuing education and attending conferences, staying current on developments in your field, and keeping abreast of the latest developments in technology. (Don’t be that person who needs to ask the younger folks for help in navigating devices, software, and apps.)

Of course, it's not healthy, mentally or physically, to stick it out in a job you hate. But you might still consider what Morningstar contributor Mark Miller calls "an encore career," a later-in-life job that's more gratifying and less taxing (but potentially less remunerative) than your main career. Being able to earn income from even a part-time job can reduce in-retirement portfolio withdrawals, thereby helping to ensure that your portfolio lasts longer than it otherwise would.

Step 4: Revisit the ‘Safe’ Portion of Your Portfolio

A perfect storm for a retirement plan is that you retire into a weak market environment and withdraw too much from a portfolio that’s simultaneously declining. Because that overspending leaves less of the portfolio in place to recover once the market does, that can reduce the odds that the portfolio will last for the 25 to 30 years (or more) that it may need to.

So, how do you circumvent that risk? One way is to delay retirement, which I just discussed. Another is taking only modest withdrawals in those early weak years. (The "Down-Market Survival Guide for Retirees" discusses the virtues and limitations of doing that.) In addition, you can help mitigate the risk of a bum market early in retirement by building out a bulwark of safer investments. That way you won't risk tapping your long-term assets, mainly stocks, when they're down in the dumps.

While my model Bucket portfolios call for a cushion of cash and bonds equal to 10 years' worth of portfolio withdrawals, that's probably overkill if you still have 10 years until retirement. Nonetheless, it's not too early to begin building your cash reserves beyond the emergency fund that you've likely held throughout your working career—up to one year's worth of living expenses or even more.

Also give your portfolio's bond weighting a closer look, especially if you haven't actively derisked your portfolio in recent years by trimming stock. The Morningstar Lifetime Allocation Indexes can be helpful in right-sizing your portfolio's bond allocation given your anticipated retirement date. Note that the indexes devote the lion's share of their bond assets to high-quality core bonds and just token amounts to noncore bonds like emerging-markets bonds. The idea is to build out your allocation to bond types with the potential to hold steady or even gain a bit in an equity-market shock. For my money, the best categories for the job include intermediate-term and short-term core and government-bond funds.

Step 5: Assess Your Equity Positioning

In addition to evaluating your portfolio's baseline allocations to stocks versus bonds and cash, also take a closer look at your positioning within your equity portfolio. After all, it's likely to still be the largest share of your portfolio, and how it's positioned will be an important determinant of how it behaves. The market rally from 2009 through 2021 didn't lift all boats equally: Value trailed at the expense of growth stocks, and international lagged U.S. Thus, if you haven't adjusted your portfolio's equity allocations recently, you may still note a bias toward those areas that have enjoyed a great performance run. Use the portfolio tool in Morningstar Investor or Instant X-Ray to assess your portfolio's sector positioning and Morningstar Style Box positioning.

Step 6: Factor in Withdrawal Sequencing and Social Security Start Date

If you’re repositioning your holdings, as discussed above, be sure to bear in mind the accounts in which you hold those assets and the sequence you’ll use to withdraw from those accounts when you eventually retire. The sequence you’ll use to draw from those accounts, in turn, can help you determine which assets to hold where.

This is a perfect place to get some tax guidance or financial planning help, but the standard sequence for in-retirement withdrawals follows this order:

1) Taxable Accounts

2) Tax-deferred Accounts

3) Roth Accounts

That argues for putting more liquid assets in your taxable accounts (which you have probably done anyway, assuming you're holding your emergency fund there). Meanwhile, the most aggressive, highest-returning assets (usually stocks) belong in your Roth accounts. Because they will likely fall into the intermediate part of your distribution queue, are subject to required minimum distributions, and are likely to compose the biggest share of your portfolio, your tax-deferred accounts can hold a blend of safer, income-producing securities like bonds as well as higher-returning, higher-risk assets like stocks.

And remember, Social Security start date factors in here, too. Many retirement planning experts argue that delaying Social Security is one of the most beneficial strategies to improve a plan's viability, in that enlarges your lifetime benefit. The Social Security Administration's Retirement Estimator allows you to model out your Social Security benefits based on various Social Security start dates. The website Open Social Security offers another useful and free tool for Social Security claiming.

Married couples should take special care to strategize about Social Security together, with an eye toward enlarging their total lifetime benefits from the program. (If one spouse is younger and will gain a larger benefit from a spousal benefit than his or her own benefit, delaying receipt of benefits will be particularly advantageous for the older, higher-earning spouse.) If you decide to delay Social Security, that will mean that you’ll need to withdraw more from your in-retirement accounts earlier on, which may influence how you position those accounts.

Step 7: Evaluate Anticipated Lifestyle Changes

The discussion about retirement planning often focuses on the assets side of the ledger. But spending can be an equally important lever.

Thus, use the preretirement years to explore your planned in-retirement spending. If it looks possible that you’ll have a shortfall, you can potentially find ways to trim your retirement costs. Housing expenses are typically one of our largest outlays before and during retirement, so finding ways to trim there, either through downsizing or relocating to a lower-cost part of the country, can be particularly effective. The name of the game is to start the planning process as early as possible, especially if you’ll be selling a home and/or purchasing a new one. If you live in a seller’s market currently, the time might be right to sell even before you retire. (Of course, if you’ll also be buying into that same seller’s market, it may be a wash.)

Step 8: Assess Your Insurance Safety Net

Building out a safety cushion is essential at this life stage; that’s your insurance against a protracted bear market. But it’s also essential to insure against other risks that you couldn’t conceivably fund out of pocket. The usual insurance recommendations apply for the years leading up to retirement: property and casualty, personal liability, and health and disability, of course.

If your children are grown and off your payroll, it's also wise to revisit your need for life insurance at this stage; while life insurance can make sense in some instances, you'll have less of a need for it once your dependents are grown. Long-term-care insurance may be prohibitively expensive by the time you reach your early 60s, or you may have encountered a health condition that disqualifies you from buying it. But it's still worth pricing out a policy, especially if you have built up a sizable but not enormous nest egg. You may decide a traditional policy still makes sense in your situation or you may seek out alternative options. At a minimum, make sure you have a plan.

The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar’s editorial policies.

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