Why bucket strategies won’t save your retirement from sequence risk

Representative image

Bucket strategies have been a favoured planning strategy for years. They divide your money into different "buckets" based on time periods—usually one for short cash, another for mid-term income, and a third for long-term growth. The idea is to draw on your most conservative positions when markets are frenzied and let your riskier investments recover. Yet although understandable and reassuring, bucket strategies are no insurance protection against one of retirement's darkest threats: sequence of returns risk.

Understanding sequence risk in retirement

Sequence risk, or sequence of returns risk, is the risk that poor early retirement investment returns—when you are beginning to withdraw from your portfolio—can inflict disproportionate damage. That's because losses are cemented in by withdrawals during a bear market, leaving fewer assets to rebound when markets inevitably shift higher. Even when your 30-year returns look good overall, poor early returns can dramatically reduce how far your money will last.

What bucket strategies try to solve

One standard bucket scheme is to keep one to three years' worth of expenses in cash or short-term bonds and invest the rest in higher-paying investments like equities. The theory is to be disciplined in the face of short-term market downturns and tap into the cash bucket and not feel obliged to sell risk assets at a loss. In theory, this reduces sequence risk by buffering your growth assets during down markets.

Where bucket strategies fall short

The problem is that market downturns last longer than anticipated, and retirees use up their short-term buckets before the markets even. Once the cash and the intermediate-term bonds are exhausted, the retiree then must begin selling out of the long-term bucket—generally at artificial bottoms. In this case, the bucket technique functions much like a conventional portfolio withdrawal technique, and the retiree is vulnerable to the same sequence risk they were trying to avoid.

Emotionally comforting, but mathematically no better

A few retirees are drawn to bucket strategies because they provide a comforting sense of control—drawing cash out when the market is down seems reasonable. However, research suggests that bucket strategies don't perform much better than other approaches, such as systematic withdrawal plans or dynamic asset allocation, in protecting against sequence risk. The psychological comfort of “not selling stocks in a downturn” often masks the underlying reality: you’re still spending during a period of poor returns, and that’s what harms portfolio longevity.

How to strengthen your retirement plan

While bucket strategies can be a valuable planning tool for budgeting and peace of mind, they must be complemented by stronger risk-management strategies. These might involve limiting withdrawals in falling markets, having flexibility in spending, or adding guaranteed income products such as annuities. The true secret to fighting sequence risk is flexibility, not merely asset segmentation. Buckets organize your money—but they don't remove the largest risks associated with spending it.