What can you do to protect your retirement if the market drops 30% in the year you retire?
The solution is not simply picking better investments. It is creating a retirement withdrawal structure that helps prevent you from becoming a forced seller at the bottom of the market. That structure is known as the three-bucket retirement strategy.
The idea is to match your money with when you expect to spend it, so the funds you will need soon are not heavily exposed to a market crash.
Bucket one covers your safe years, typically the first five to seven years of retirement expenses. This money is held in conservative, stable assets. It is not designed for aggressive growth. Its purpose is to be available when you need it.
Early retirees may need a deeper bucket one than traditional retirees because the years before Social Security and Medicare can require higher withdrawals from their retirement portfolio.
Bucket two covers the middle years, generally years eight through fifteen. It is invested for moderate growth and is designed to refill bucket one over time while allowing enough time to ride out market volatility.
Bucket three is your long-term money, covering year sixteen and beyond. It is invested for growth because it has the most time to recover and continue growing after a market downturn.
The behavior that makes the three-bucket system work is simple. During a downturn, you spend from bucket one and leave the growth buckets alone. Bucket one is refilled from the growth buckets only after the market has recovered.
This means you aim to sell growth assets when they are up rather than when they are down. The structure helps remove the forced-sale decision before a market crash even arrives and can reduce sequence-of-returns risk during retirement.
Building and personalizing a three-bucket retirement plan requires careful attention to two areas: sizing each bucket according to your actual spending and stress-testing the entire plan against the conditions that can damage a retirement strategy.
Those conditions may include an early market crash, higher-than-expected inflation, rising healthcare costs, living longer than planned and unexpected large expenses. A retirement plan that only survives favorable market conditions is not a complete plan.
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