Here is a fact that surprises almost everyone the first time they meet it: two retirees can earn the exact same average return over twenty years, withdraw the exact same amount each year, and one ends up broke while the other dies wealthy. Nothing about their average is different. The only thing that differs is the order in which the good and bad years arrived. That is sequence-of-returns risk, and it is the single most under-appreciated idea in long-term planning.
The key takeaway up front: while you are saving and not touching the money, the order of returns barely matters — only the average and the time do. The moment you start withdrawing, order becomes everything. A run of bad years early in retirement can permanently damage a portfolio that would have thrived if those same bad years had come later. Understanding why is what lets you tune out the noise and plan around the real risk.
Not financial advice. This article is general educational content, not personalized investment, tax, or retirement advice. All figures below are simplified, illustrative examples chosen to show a concept — not predictions or recommendations. Markets carry risk, including loss of principal. Your situation is unique; consider speaking with a licensed professional before making decisions.
Why averages lie once you spend the money
Most people reason about investing using the average annual return. It is a useful number, but it hides a trap. An average treats every year as interchangeable, and that assumption quietly breaks the day you start taking money out.
While you are accumulating — adding money and withdrawing nothing — the math is forgiving. A bad year early just means you buy more shares cheaply; a bad year late means you had decades of growth first. Either way, the same set of returns in any order lands you in the same place, because compounding is multiplication and multiplication does not care about order.
Withdrawals break that symmetry. When you sell shares to fund a year of spending during a downturn, those shares are gone. They can never participate in the recovery. You have "locked in" the loss for that slice of the portfolio. Do that repeatedly in the first few years, and you can hollow out the base that the rest of your retirement was supposed to grow from.
A concrete worked example
Let me make this tangible with deliberately simple numbers. Two savers, Ana and Ben, each retire with $1,000,000 and withdraw $50,000 per year (a 5% starting withdrawal). Over three illustrative years, both experience the same set of returns — +20%, +5%, and −30% — just in a different order. The average and the set are identical.
Ana gets the bad year last (+20%, +5%, −30%):
- Start $1,000,000 → withdraw $50,000 → $950,000 → grow 20% → $1,140,000
- → withdraw $50,000 → $1,090,000 → grow 5% → $1,144,500
- → withdraw $50,000 → $1,094,500 → fall 30% → $766,150
Ben gets the bad year first (−30%, +5%, +20%):
- Start $1,000,000 → withdraw $50,000 → $950,000 → fall 30% → $665,000
- → withdraw $50,000 → $615,000 → grow 5% → $645,750
- → withdraw $50,000 → $595,750 → grow 20% → $714,900
Same returns, same withdrawals, same average — yet Ben ends roughly $51,000 poorer after just three years. Stretch this over a 25- or 30-year retirement and the gap compounds into the difference between running out of money and leaving an inheritance. The bad year did identical damage to the percentage; it did very different damage to the dollars, because Ben withdrew from a portfolio that was about to fall and never recovered those withdrawn shares.
The common mistakes — and why people make them
Mistake 1: Planning entirely off the long-run average. People see "the market returns about 7% a year over the long run" and build a withdrawal plan as if they'll get 7% every year. Reality delivers that average as a jagged line of good and bad years, and the jaggedness is exactly what hurts a withdrawing portfolio. The average is real; the smoothness is imaginary.
Mistake 2: Treating the accumulation rule and the withdrawal rule as the same. Because order doesn't matter while saving, savers internalize "just stay invested, ride it out." That lesson is correct for accumulation and incomplete for the withdrawal phase, where riding out an early crash while selling into it is precisely the problem. The same person needs two different mental models for two different phases.
Mistake 3: Confusing volatility with the risk that matters. Volatility on its own is not the enemy; volatility combined with withdrawals at the wrong time is. A portfolio you never touch can be wildly volatile and still fine. The danger appears only where bad returns and forced selling overlap. If you'd like a refresher on what actually drives those swings, our plain-language guide to how the stock market works covers the mechanics behind price moves.
Edge cases and caveats
A few honest qualifications, because this concept is easy to over-apply:
- It cuts both ways. A run of good years early in retirement is a powerful tailwind — sometimes called sequence "luck." The risk is real, but so is the upside; you can't know in advance which you'll get.
- It mostly bites near the transition. The danger zone is concentrated in the years just before and after you start withdrawing, when the portfolio is largest and a downturn does the most absolute damage. Decades from retirement, it barely registers.
- Flexible spending blunts it. The math above assumes a rigid, inflation-blind withdrawal. People who can trim spending in down years reduce the forced-selling problem considerably — though "spend less in a recession" is easier to write than to live.
- This is a concept, not a forecast. The example uses three clean years to isolate the idea. Real sequences are longer and messier, and no example predicts any actual outcome.
The one trick to remember
If you take a single actionable idea from this, make it this reframing: average return is an accumulation concept; order of returns is a withdrawal concept. The moment your plan involves selling assets to live on, stop asking only "what return will I average?" and start asking "what happens if my worst years arrive first?" Stress-testing a plan against an early bad stretch — rather than a smooth average — is how thoughtful people surface this risk before it surfaces them. You don't need to predict the order; you need a plan that survives a bad one.
FAQ
Does sequence-of-returns risk affect people who are still saving? Very little. While you're only adding money and not withdrawing, the order of returns doesn't change your ending balance for a given set of returns — only the average and the time invested do. The risk concentrates in the withdrawal phase.
Is a higher average return the way to beat this risk? Not by itself. The whole point is that two paths with the same average can end very differently. Chasing a higher average usually means more volatility, which can make the sequence problem worse, not better, once you're withdrawing.
When is sequence risk most dangerous? Generally in the years immediately before and after you begin withdrawing, when the portfolio is at its largest and you've started selling into any downturn. A bad stretch then does more lasting damage than the same stretch decades earlier or later.
Does this mean I should avoid stocks near retirement? It doesn't point to any single answer — that's a personalized decision. It's a reason to think about how exposed your withdrawals are to an early downturn, and to understand the trade-offs of different mixes, rather than a recommendation to hold or avoid any asset.
Is the average return number useless, then? No — it's genuinely useful for understanding long-run growth and for the saving phase. It just answers a different question than "what's my risk while spending this money?" Use it for what it's good at, and add sequence thinking when withdrawals enter the picture.
Sequence-of-returns risk is a perfect example of why understanding the machine beats memorizing a single number. For more clear, jargon-free explainers on how markets and money actually work — so you can plan with your eyes open — explore the rest of TopInvestors.
