ARBOR WEALTH: Up, up and away or a busted market balloon?

Published: Thursday, April 24, 2014 at 03:21 PM.

  “Would you like to ride in my beautiful balloon?” — “Up, Up and Away” by Jimmy Webb


More folks nearing or in retirement are shifting their focus from relative returns to absolute returns when judging the effectiveness of their investments. 

Assume your portfolio returned 6 percent last year and the S&P 500 returned 3 percent.  By comparison, your relative return was good. The problem with that thinking is that some years the S&P doesn’t finish with positive returns, so simply beating the benchmark index may not accomplish your aims.

Say your portfolio outperformed the S&P by 20 percent in 2008, when the market was down 37 percent. By comparison, you did well. But it’s difficult to feel good about your investments being down 17 percent on the year. For example, if you lost 50 percent in 2008, you needed to earn 100 percent in 2009 just to get back to square one. Investors nearing or in retirement just can’t afford another large setback and the lost investing time associated with it. The sequence-of- return risk dictates that large losses entering retirement or in early retirement years are much more devastating than similar losses sustained later on.

For the 17-year period between 1966 and 1982, the S&P’s total return was 0 percent. An investor who retired in 1966 and beat the S&P over 17 years by 1 percent a year through 1982 did not even keep up with inflation, much less meet any retirement goals.

The return you need in order to meet those income goals is the number that may be more important. How the S&P performs may not actually be a concern, and this is a sea change in thinking for investors who have always focused on high returns during their younger working years. But with the onset of retirement, the risk factor becomes much more prominent, and should probably play a larger role in the types of investments one chooses. An investor nearing retirement wants to get as close to his/her magic annual necessary return number, while minimizing the risk involved in reaching that return.

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