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Sequence risk is the danger that poor investment returns early in retirement, combined with ongoing withdrawals, will permanently shrink a portfolio, even if the long-term average return looks fine. Diversification helps, but it isn't a guarantee. When stocks and bonds fall together, as they did in 2022, even balanced portfolios can suffer the same damage.
Key Takeaways:
Sequence risk is about timing — not averages. Two retirees can earn the same long-term return, yet one can run out of money simply because losses happened early in retirement.
Withdrawals amplify early losses. When markets fall in the first few years of retirement, ongoing withdrawals shrink the portfolio base — making recovery mathematically harder.
Diversification isn’t a guarantee. In today’s environment of rising correlations, even well-diversified portfolios can fall together — increasing sequence risk at the worst possible time.
Retirees face a structural paradox. They need growth to outpace inflation and longevity, but pursuing growth increases volatility — which heightens the risk of damaging early losses.
Most investors focus on average returns.
Why? Because markets are noisy. They’re up big one year, flat the next, down the year after that. Over time, we’re taught that as long as it averages a solid 8% or so, everything works out.
And generally, that’s true.
But there’s a major problem with that thinking.
In retirement, average returns are not the main risk.
Timing is.
This is called sequence risk1, or sequence of returns risk. It is one of the most important - and misunderstood - threats in retirement planning.
And in today’s market, it deserves even more attention.
Stocks move faster. Sectors are more connected. Volatility can surge overnight. And a bad stretch at the wrong time can change everything.
What Is Sequence Risk?
Sequence risk refers to the danger of poor investment returns earlyin retirement.
When you are working, market declines are frustrating. But you can still contribute to your portfolio, thus buying at lower prices (dropping your average cost for even better long-term gains).
But in retirement, that math changes.
Now you are withdrawing money. And that makes a massive difference.
How? Because if markets fall in the first few years of retirement and withdrawals continue, the portfolio can shrink very quickly (selling at losses). And even if markets recover later, the damage may already be done (since your portfolio is depleted).
Thus, two retirees can earn the same average return over 20 years.
One can be fine. And the other can run out of money.
The difference here is the order of returns.
To put a number on it - Morningstar currently estimates a safe withdrawal rate of just 3.9% for a 30-year retirement with 30-50% in equities, down from the old 4% rule of thumb, precisely because sequence risk eats into what once looked like a safe number.morningstar
That is sequence risk.
What Is an Example of Sequence Risk in Retirement?
Imagine two people retire with $1 million. Each withdraws $50,000 per year.
Both earn the same average return over time - just in different orders.
Retiree A experiences strong returns early and weaker returns later.
Retiree B experiences weak returns early and stronger returns later.
Even with the same long-term average, Retiree B ends up with much less money.
Why? Because early losses combined with withdrawals shrink the portfolio faster.
Let’s say Retiree B experiences a 20% loss in Year 1.
$1,000,000
–20% = $800,000
–$50,000 withdrawal = $750,000
Now the portfolio is down to $750,000 after just one year.
To get back to $1,000,000 from $750,000, the portfolio now needs a 33% gain - not 20%.
Worse, what if the market stays weak for another year? Another decline. Another withdrawal. The base shrinks yet again as retiree B keeps selling in a down market.
This is how early losses can snowball in retirement.
Why Sequence Risk in Retirement May Be More Important Than Ever
Sequence risk has always been a threat.
But today, three structural forces make it more serious.
That means portfolios must last longer and generate sustained growth. Early losses now have more time to compound in the wrong direction.
Markets Move Faster
More interconnected markets mean stocks swing within seconds. A central bank comment can send markets all over the place. A geopolitical event unfolds overnight. Futures drop. Algorithmic trading, momentum strategies, and global capital flows have compressed time and bolstered noise.
Thus, entire sectors can rise or fall together in days.
Speed increases volatility. And volatility increases the chance that a retiree experiences a sharp decline early in retirement.
Inflation Risk Has Returned
For decades, inflation stayed low and stable. Many retirement plans were built during that era. Over time, planners and investors grew comfortable assuming inflation would remain contained.
Then the pandemic hit.
Inflation surged to levels not seen since the 1970s. Governments ran record deficits. Central banks eased aggressively.
Inflation has cooled, but structural pressures remain. Aging populations, reshoring, energy transitions, and rising global deficits all create uncertainty.
For retirees, inflation erodes purchasing power every year. Portfolios must generate real growth - not just nominal returns.
Retirees need growth to outpace inflation and make their money last.
But pursuing growth exposes them to market volatility.
And volatility increases the risk of early losses.
Thus, that combination makes sequence risk more relevant today than many investors realize.
The Diversification Illusion
Many retirees believe they may be better protected because they are diversified.
They own different sectors. They hold stocks and bonds. They may own international funds.
On paper, that looks balanced. One goes up, others go down.
But diversification does not always work the way people expect. . .
In some market environments, correlations rise. That means assets that usually move differently begin moving in the same direction.
For example, we saw this in 2022. Stocks and bonds both declined. Thus, a traditional 60/40 portfolio had one of its toughest years in decades.
And while that’s relatively rare, we have also seen periods when growth stocks, technology stocks, and communication stocks moved almost in lockstep. Investors believed they owned different sectors. But in reality, they owned variations of the same theme - whether it was liquidity-driven growth or enthusiasm/fear around AI.
Even assets once viewed as alternative hedges (like crypto) have shown sharp downside volatility during stress and growth periods. The assumption that something can often offset equity risk does not always hold.
Put simply, when correlations increase, diversification provides less protection.
And for someone facing sequence risk, that matters.
If multiple parts of a portfolio fall together early in retirement, withdrawals can magnify the damage.
Does Rising Correlation Increase Sequence Risk?
Sequence risk becomes more serious when assets move together.
If markets are growing more correlated4 – even diversified portfolios can give false confidence
Retirement planning cannot rely only on asset labels. It must consider how those assets behave under stress.
Correlations change with inflation, interest rates, and policy shifts. What worked in one decade may not work the same way in the next.
That is why retirement strategy requires more than a static allocation.
How Can Retirees Reduce Sequence Risk?
Unfortunately, sequence risk can’t be eliminated. But it can be managed.
Common approaches include:
Diversification across asset classes
Cash reserves for near-term withdrawals
Flexible withdrawal strategies
But structure matters just as much as allocation.
When markets fall, the instinct is to reduce risk. But selling after a decline can lock in losses and increase long-term damage.
Disciplined systems can help.
DunhamDC - for instance - applies a rules-based investment overlay designed to “buy fear and sell greed.” It systematically rebalances, buying when markets plunge amid panic and trims exposure when markets become frothy and overpriced.
Thus, instead of reacting to headlines - it follows predefined thresholds.
That discipline matters in retirement.
Because early losses combined with emotional decisions are what amplify sequence risk.
Why This Deserves More Attention
Sequence risk does not show up in average return projections.
It hides in timing. It hides in personal withdrawal needs. It hides in the first few years of retirement - when the damage is hardest to reverse.
But by understanding how early volatility, rising correlations, inflation, and withdrawals interact, we can try and get a better picture.
This is why we published our industry white paper - “Is Our Industry Prepared for Retirees' Longer Lifespans?”It covers the real structural risks retirees face - including sequence risk, longevity risk, and inflation risk - and outlines practical frameworks to better address them.
We believe education is the first step. Planning is the second.
Then, disciplined systems are what turn those plans into outcomes.
Because knowing the risks is not enough. You need a structure that responds when markets don’t cooperate.
The point here is, in retirement - the order of returns can matter more than the average return.
And the first few years matter most.
That is where structure helps bolster a plan. Or exposes it.
So, if sequence risk is becoming a more prominent conversation with your clients, now may be the time to stress-test how their portfolios respond to early volatility.
We would welcome the opportunity to show you how our research, retirement framework, and disciplined DunhamDC overlay are built to help advisors manage these structural risks.
Frequently Asked Questions About Sequence of Returns Risk
Does diversification protect retirees from sequence risk? Not always. Diversification works well in normal markets, but it can break down when stocks and bonds start moving together. That's what happened in 2022, when a traditional 60/40 portfolio had its worst year since 1937 as stock-bond correlation spiked to around 0.75, way above the typical range of -0.25 to +0.25.
Why did 60/40 portfolios fail during the 2022 downturn? Bonds are supposed to cushion stock losses, but in 2022 both fell at the same time. The S&P 500 dropped 18.1% while the Bloomberg US Aggregate Bond Index fell about 13%, one of its worst years on record. That wiped out the offset retirees usually count on from holding bonds.
How much cash should a retiree hold to manage sequence risk? A common guideline is two to three years of planned withdrawals held in cash or short-term bonds. On a $1 million portfolio withdrawing $50,000 a year, that works out to roughly $100,000 to $150,000 set aside so a market downturn doesn't force stock sales at a loss.
Can rules-based rebalancing reduce sequence risk in a client's portfolio? It can help. Disciplined, threshold-based rebalancing that buys during panic-driven declines and trims positions when markets get overextended cuts down on emotional selling. Early losses combined with reactive decisions do the most damage to a portfolio in the withdrawal phase, so removing the emotion matters.
This communication is general in nature and provided for educational and informational purposes only. It should not be considered or relied upon as legal, tax or investment advice or an investment recommendation, or as a substitute for legal or tax counsel. Any investment products or services named herein are for illustrative purposes only and should not be considered an offer to buy or sell, or an investment recommendation for, any specific security, strategy or investment product or service. Always consult a qualified professional or your own independent financial professional for personalized advice or investment recommendations tailored to your specific goals, individual situation, and risk tolerance. All examples are hypothetical and are for illustrative purposes only.
Information contained in the materials included is believed to be from reliable sources, but no representations or guarantees are made as to the accuracy or completeness of information.
Dunham &Associates Investment Counsel, Inc. is a Registered Investment Adviser and Broker/Dealer. Member FINRA / SIPC. Advisory services and securities offered through Dunham & Associates Investment Counsel, Inc.
