The Dow Jones Industrial Average hit a new all-time high on Thursday, closing at 15,549. This represents an increase of 9,001 points, or 137.5% since it closed at a low of 6,547 on March 9, 2009 following a 17-month tailspin. This equates to a dizzying average annual increase of 31.25% over the last 4.4 years.
But wait a second. Before the Dow began its historic 17-month decline, it closed at a high of 14,165 on Oct. 9, 2007. Thursday’s closing price was only 1,384 points, or 9.8% above this mark. Given the fact that it’s taken approximately 5-3/4 years to reach the recent milestone, this is an average annual return of only 1.7%.
While the recent increase in stock prices has been encouraging for near-retirees, should they continue their ride on the stock market roller coaster or is it time to jump off? Should their point of reference be Oct. 9, 2007 or March 9, 2009?
If you believe in the mathematical concept of reversion to the mean, the projected movement of the stock market will be quite different depending upon your reference point. Assuming that you’re starting from Oct. 9, 2007, an average annual return of 1.7% leaves a lot of room for growth, especially if economic indicators are generally positive.
If, on the other hand, March 9, 2009 is your focal point, with an average annual return of 31.25% in your rearview mirror, the likelihood of a major market correction is staring you in the face. If you’re of the second school of thought, a natural question is, will the next drop be a stomach-churning, sleep-deprived experience that reverses much of the past four plus years of gains? Will you repeat the same unfortunate timing of individuals who retired in the beginning of 2009?
Ever since I lost my crystal ball years ago, caution and conservatism have played a key role in the recommendations that I give to my clients. This approach is critical with near-retirees who are relying on their portfolios to provide them with the income not provided from other sources to meet their non-discretionary expenses.
If you’re planning on retiring within the next five years and are projecting that your portfolio will increase an average of 4% per year, you can’t afford to take a risk of a big hit before you retire. This could result in delaying your retirement by several years as happened with early 2009 retirees and/or a sizeable retirement lifestyle downgrade.
As always, an extreme strategy, e.g., pulling everything out of the stock market, is probably not a good solution. Even if you’re within five years of retirement, assuming decent health, there’s a good chance you will spend 15 to 25-plus years in retirement. Given current rising interest rates and the likelihood of increased inflation in the coming years, the presence of a healthy dose of diversified equity holdings in a retiree’s portfolio is prudent in the vast majority of cases.
Having said this, defensive loss-protection/sustainable income conversion strategies should be considered and analyzed for potential implementation for a portion of most pre-retirees’ portfolios. Such strategies may include a portfolio of fixed-income annuities that transfer the risk and uncertainty inherent in the stock market to life insurance companies.
Types of annuities that should be considered for inclusion in a pre-retiree’s fixed-income annuity portfolio include single premium immediate annuities (“SPIA’s”), deferred income annuities (“DIA’s”), and fixed-index annuities (“FIA’s”) with income riders, otherwise known as guaranteed lifetime withdrawal benefits (“GLWB’s”).
If you’re a pre-retiree, whether you’re using the March 9, 2009 Dow closing price of 6,547 or the Oct. 9, 2007 closing price of 14,165 as your point of reference, a balanced conservative approach should always be your retirement-income planning mantra.
Jumping off the stock market roller coaster is generally not only unnecessary; it can prove to be detrimental to your retirement health. Seeking out and implementing fixed-income strategies, on the other hand, can help smooth out the ride.
DISCLOSURE: Robert Klein is licensed as a Resident Insurance Producer in California (License #0708321).
Robert Klein, CPA, PFS, CFP®, RICP®, CLTC® is the founder and president of Retirement Income Center in Newport Beach, California. Bob is also the sole proprietor of Robert Klein, CPA. Bob applies his unique background, experience, expertise, and specialization in tax-sensitive retirement income planning strategies to optimize the longevity of his clients’ after-tax retirement income and assets. He does this as an independent financial advisor using customized holistic planning solutions based on each client’s needs and personality.