Below is a brief 8 – minute video link to a deep dive case study on a sequence of returns risk and how to avoid it by using a HECM reverse mortgage line of credit. I will also attach a few key slides from the presentation.
People investing for retirement need to understand what a sequence of return risk is and the catastrophic negative affect it can in prematurely depleting their investment portfolio during the retirement asset withdrawal phase.
In a nutshell when someone is within preparing for retirement or is currently in retirement and drawing down their investment portfolio as monthly or annual income, when the value of the investment returns an annual negative return rate, and the individual continues to draw their annual amount for living expenses, the life of that investment will drastically be cut short by withdrawing funds in a negative market. That will cause a sequence of returns risk event. The concept is immediately following a down market year, do not pull from retirement asset. Give it time to recover and pull from the HECM reverse mortgage line of credit instead, and when the market rebounds, re-start from the retirement investment and stop pulling from the FHA reverse mortgage line of credit.
The presentation demonstrates that just four negative year return rates, especially early in the draw down phase of a portfolio, compares a portfolio not using the HECM reverse mortgage line of credit during the withdrawal phase, versus incorporating the line of credit during the draw down and instead of running out of funds in 25 years, the portfolio has over $1 million in the same amount of time. It’s shocking to say the least. The sequence of return risk could have been avoided altogether by employing the HECM reverse mortgage line of credit.
But what causes a sequence of return risk? People who hold investments for retirement that do not have buckets of money to dip into, not in the market, to pull from immediately following a down market year can result in outliving your money. These buckets of money, can be cash, life insurance cash value or the HECM reverse mortgage line of credit. Line of credits are not all equal. A HELOC can be frozen at any time by the bank if property values drop, can be difficult to qualify for, and needs to be re-opened every 10 years, a HECM reverse mortgage line of credit stays open for the rest of your life and can never be closed due to property values dropping. You can check out this HELOC vs a HECM line of credit video for more information.
When you meet with your financial advisor to go over your retirement investments and to agree on the percentage on how much to pull annually from your nest egg, it’s assuming the retirement investment will be achieving a positive rate of return each year. Compounding interest and dividends the retirement investments generate are included in figuring your annual withdrawal rate. Compounding is a key concept to understand. By withdrawing funds, you not only pull the face value of the of the withdrawal amount, but also all the compounding income that amount will generate over the course of several decades. It keeps generating income on itself year after year. When the asset goes down in value in the negative, you lose not only the face value, but all the compounding affects that go with it. Albert Einstein once said those who understand compounding interest earn it – those who don’t pay it.
But, some people who do not have other buckets not in the market, have no choice but to keep pulling funds from a declining asset which can be disastrous. People who understand the sequence of returns risk, and experience negative market returns just prior to retiring as in 2022, may have to opt to keep working and not pull from the funds and wait until the market returns to annual positive territory before contemplating whether or not to retire at a later date. Having an FHA HECM reverse mortgage line of credit set up prior to retirement can allow them to leave the workforce as originally planned and give them options.
People are living longer, that’s a fact. Retirement investing in the future may need to incorporate home equity into the equation, specifically the FHA reverse mortgage line of credit, and not just leave it as a last resort after running out of money. Having safe investment options is one thing, but we cannot control the market environment and global events, we need to be prepared for sequence of returns events and think outside the box and challenge conventional wisdom.
A special thank you to Phil Walker of Finance America Reverse who put on the presentation. Here’s an attachment of the key slide incorporating the FHA reverse mortgage line of credit versus using it as a last resort.
Feel free to call, email or fill out the below scenario if you have any questions or concerns on the presentation.
Kind regards,
KW