How to Survive Big Market Declines

Hi friends. Today I want to discuss protecting yourself from sudden declines in your investment accounts. They can happen at any time and are impossible to predict. Therefore, they must be planned for in advance. This chart shows the sudden market declines of 20% or more in the S&P 500 since 1980. As you can see, the market has gone up significantly during that time, but there were six major declines that investors needed to endure. The average temporary decline for the S&P 500 was 35%, and the average time from the start of the decline to a full recovery was almost three years.

We protect our retired or soon-to-be-retired clients against events like this by keeping a predetermined cushion in short-term bonds and money market. This cushion is the number of years of projected spending that we can access during those times that the market is temporarily down. This is how we calculate your cushion. First, we look at your annual retirement spending goal in your financial plan. Next, we subtract any income that you will likely have no matter how stocks are performing. These can include Social Security, pensions, and the dividend income from your stock holdings.

So, for example, if you have a retirement spending goal of $200,000 per year and an investment portfolio worth $3 million, the calculation would look something like this. First, we subtract $70,000 for Social Security and $40,000 from expected annual stock dividends. This leaves us with $90,000 per year that we will need to withdraw from somewhere in your portfolio each year. If you hold $900,000 in bonds and cash, which is 30% of your $3 million investment portfolio, this would last for almost 12 years with interest before we'd have to begin using stock for your retirement income goal.

So, in other words, your cushion is 12 years, and you would have successfully been able to make it through all of the major market declines since 1980 without having to sell stock that is temporarily down in your investment accounts. Having this cushion also allows you to keep the remainder of your investments in stocks for the long term to grow your wealth and stay well ahead of inflation.

Knowing the number of years in your cushion can help you determine your overall investment mix between stocks and bonds, and more importantly, allow you to sleep better at night when the market is volatile. We are constantly monitoring the cushion our clients have at Presilium. Please call us anytime to discuss your calculation. If you are not currently a client, we are happy to calculate your personal cushion and use that to see if your overall plan or investment mix should be updated. Thank you, and I look forward to talking with you next Friday morning.