Sequence of Returns Risk Calculator
See how much a bad year early in retirement costs compared with the same bad year late, using an identical set of returns in two different orders.
How to use this calculator
- 1Enter your portfolio and the amount you would draw in the first year.
- 2Set what a normal year returns and how bad a bad year is, along with how many bad years to model.
- 3Read the two final balances — the returns are identical, so the difference is caused entirely by their order.
- 4Set withdrawals to zero to see the control: with no spending, both orders finish on exactly the same figure.
How the calculation works
Each year: balance = (balance − withdrawal) × (1 + return). The same set of returns is applied in two orders, bad years first and bad years last- Same returns
- Both runs use an identical multiset of annual returns, so the arithmetic and compound means are equal by construction
- Withdrawal first
- Money is taken at the start of each year, before growth — the conventional and conservative assumption
- Control
- The same two sequences with no withdrawals, which must finish identically because multiplication commutes
Nothing here is randomised. The comparison is deterministic, so the effect is demonstrated rather than sampled.
Sequence risk is a decumulation phenomenon. While you are only contributing, the order of returns has no effect on the final balance.
Withdrawing before growth rather than after makes early losses bite harder; the opposite convention narrows the gap but does not remove it.
Worked example
A $1,000,000 portfolio drawing $40,000, with two bad years
- 1.Both runs use two years at −35% and twenty-eight at 7%, so the average return is identical in each.
- 2.With the bad years first, the portfolio falls to well under half before any recovery begins, while $40,000 a year keeps being sold out of it.
- 3.With the same bad years last, nearly three decades of compounding happen first and the losses land on a much larger base.
- 4.The gap between the two final balances is the cost of sequence, not of the returns.
- 5.Switching withdrawals off makes both runs finish on the identical figure, which proves the point.
Result: A large divergence from ordering alone, and none at all without withdrawals
Why average returns lie in retirement
Almost every retirement projection asks for an expected return and then applies it evenly, year after year. That is a reasonable simplification while you are saving and a seriously misleading one once you are spending, because it silently assumes the thing that matters most cannot happen.
Two retirees can live through exactly the same set of annual returns — the same numbers, the same average, the same compound growth rate — and reach completely different outcomes. If one of them met the bad years first, they can run out of money while the other, who met the identical bad years last, dies with more than they started with.
The mechanism is straightforward once stated. A withdrawal is a sale. Selling a fixed sum out of a portfolio that has fallen 35% liquidates far more of the holding than selling the same sum after a good year, and those units are gone — they are not there to participate in the recovery. Early losses therefore do permanent damage that late losses of identical size do not.
The control that proves it
It is easy to assert that order matters and hard to believe without seeing it isolated, so this calculator includes the control.
Run the same two return sequences with withdrawals switched off and both finish on exactly the same balance, to the cent. They must: the final value is the starting value multiplied by a series of growth factors, and multiplication commutes. Order genuinely cannot matter.
Turn withdrawals back on and the two diverge immediately. Nothing about the investments changed between those two runs — only whether money was being taken out. That is the cleanest available demonstration that sequence risk is created by decumulation rather than by markets.
It also explains why the risk is concentrated in the first decade of retirement. A bad year in year twenty-five falls on a portfolio that has already done most of its compounding and has few withdrawals left to fund. The same year at the start undermines everything that follows.
What actually reduces it
The defences are unglamorous and they work by breaking the link between a market fall and a forced sale.
Holding a cash or short-bond reserve covering one to three years of spending is the most direct: in a bad year you spend the reserve and sell nothing, then refill it after a recovery. It costs some expected return in exchange for not being a forced seller at the worst moment.
Flexible spending is the most powerful and the least popular. A retiree who can cut withdrawals by ten or fifteen percent in a bad year removes most of the damage, because the sales that do permanent harm are the ones made at the bottom. Rules that skip an inflation increase after a down year achieve much of this with little pain.
A rising equity glidepath — starting retirement more conservative and increasing equity exposure over time — reverses the usual advice and targets the risk precisely, because it holds the least equity during the window where a crash would be most destructive.
What does not help is picking a higher expected return. The whole point of this calculation is that the average was never the problem.
What this assumes, and where it stops
Assumptions
- Withdrawals are taken at the start of each year, before that year's growth.
- Returns are applied to the whole portfolio, with no distinction between asset classes.
- The bad years are consecutive, placed at the very start in one run and the very end in the other.
- Withdrawals rise by the rate entered every year regardless of portfolio performance.
Limitations
- This is a deterministic illustration of two orderings, not a Monte Carlo simulation of many possible paths.
- Real return sequences are neither uniform nor neatly grouped; the grouping here maximises the contrast to make the effect visible.
- Taxes, fees and required minimum distributions are excluded, all of which reduce the sustainable withdrawal.
- Rebalancing, asset allocation and any flexible spending rule are not modelled.
- Portfolio depletion is reported by year but the calculator does not model what happens after it.
Common questions
What is sequence of returns risk?
It is the risk that the order in which investment returns arrive, rather than their average, determines whether your money lasts. Two retirees experiencing an identical set of annual returns can end up with very different outcomes if one met the bad years early and the other met them late. It applies only when you are withdrawing — while you are still contributing, the order of returns has no effect on the final balance.
Why does the order of returns not matter while I am saving?
Because the final balance is your starting amount multiplied by each year's growth factor, and multiplication gives the same product in any order. With no money moving in or out, a 20% gain followed by a 10% loss ends exactly where a 10% loss followed by a 20% gain does. Withdrawals break that symmetry, because the amount removed in a bad year is a larger share of a smaller portfolio.
How do I protect against sequence risk?
Three approaches work, all by avoiding forced selling at the bottom. Hold one to three years of spending in cash or short bonds so a bad year does not require selling equities. Keep withdrawals flexible — even skipping an inflation increase after a down year removes much of the damage. And consider starting retirement with a lower equity allocation and raising it over time, which puts the least risk in the window where a crash does the most harm.
Does the 4% rule account for sequence risk?
Yes, and that is largely what it is for. The figure came from testing withdrawal rates against actual historical return sequences, including the worst starting years, rather than against an average. That is why it looks conservative next to long-run average returns — it is chosen to survive a bad opening decade, not a typical one. Applying an average return in a spreadsheet will always suggest a higher sustainable rate than the history supports.
Sources
- Determining Withdrawal Rates Using Historical Data (Bengen, 1994) — Financial Planning Association
- Retirement topics — Required minimum distributions — US Internal Revenue Service
Formula and content last reviewed on .
Results are estimates for information only, not professional advice.
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