Why the 4% Withdrawal Rule Might Not Be the Best Strategy for Retirement — And How Annuities Can Potentially Offer a Better Alternative
 

When planning for retirement, many people turn to the famous "4% rule" as a guiding principle.

The idea is simple: withdraw 4% of your portfolio each year, and your money should last throughout retirement.

It sounds like a solid strategy, but in reality, there are significant flaws that make the 4% rule risky, especially in today's volatile markets. A more reliable, secure approach is to combine the right annuities with a diversified retirement portfolio.

Let’s explore why the 4% rule often falls short and how an annuity ladder can help you achieve a more predictable, stable income stream.

 

The Traditional 60/40 Portfolio: Not the "Best of Both Worlds"
 

The traditional 60/40 portfolio, which allocates 60% to equities (stocks) and 40% to bonds, has long been thought of as the ideal "balanced" strategy for retirees. In theory, bonds should protect your portfolio during market downturns, while stocks generate growth during good times. But recent market events have exposed this myth.
 

In 2022, a traditional 60/40 portfolio experienced near-identical losses to a portfolio of 100% equities (such as the S&P 500). That’s right — despite having 40% of the portfolio in bonds, which are supposed to cushion losses, the portfolio still took a major hit. Why? Bonds and equities tend to behave differently during most market cycles, but when both stocks and bonds drop simultaneously, the supposed protection of bonds disappears.
 

In reality, the 60/40 portfolio may be the "worst of both worlds":

Why?-- It's still too risky on the downside to provide the stable, predictable income that most retirees need, yet at the very same time it's too conservative to provide the long-term, inflation-beating growth that retirees often seek.

Retirees are left in a tough spot: not enough income and not enough growth. In other words, the traditional 60/40 allocation doesn’t fully meet the needs of most retirees.

 

The 4% Withdrawal Rule: Sequence of Returns Risk and Downside Market Risk
 

The 4% rule may seem safe at first glance. The idea is to withdraw 4% of your portfolio’s value each year for income, assuming that your portfolio will grow enough to replenish the withdrawals. But there are serious issues with this approach — namely, sequence of returns risk and downside market risk.
 

Sequence of Returns Risk
 

Sequence of returns risk is the risk that the order of your investment returns will hurt you, especially early in retirement. If the market suffers a major downturn early in your retirement (which, let’s face it, has happened frequently in recent years), the 4% withdrawal rule can be devastating.

Withdrawing funds from a portfolio while it's losing value means you're not just losing market gains; you're depleting your principal. This can cause your portfolio to run out of money much sooner than expected, leaving you without enough income in later years.
 

For example, if you experience a 30% market downturn during your first few years of retirement, but you’re still withdrawing the same 4% of your portfolio each year, you're locking in those losses and potentially jeopardizing your long-term financial security.
 

Downside Market Risk
 

Even in more moderate market conditions, a retirement plan based entirely on market performance carries inherent risk. It’s completely dependent on the market “cooperating,” which it may not do over the long term.

The 4% rule assumes that the stock market will generally provide positive returns over the next 30 years. But history has shown us that market crashes are inevitable — and those crashes often occur during critical times in a retiree's life.
 

Do you really want your retirement income to hinge entirely on the market's performance over the next few decades? With the uncertainty in today’s economy, and the current global geo-political climate, most retirees don’t want to gamble with their future by relying on the stock market to provide the income they need to cover daily expenses.

 

Why the 4% Withdrawal Rule Requires Too Much Capital for Only Mediocre Income In Return
 

Another issue with the 4% rule is that it requires a significant amount of capital to generate a relatively modest income. For instance, if you want to withdraw $40,000 a year, you’ll need a portfolio worth $1 million. While $40,000 might sound like a lot to some, it's often not enough for many retirees who face rising healthcare costs, inflation, and unexpected emergencies.
 

On the other hand, if you want to generate $40,000 or $50,000 in income while also preserving your capital, you would likely need to keep a much larger portfolio, perhaps $1.5 million or more. The 4% rule requires a substantial amount of money to produce income at a level that might not even meet a retiree’s actual needs — all while leaving a significant portion of the portfolio exposed to market risk.

 

The Solution: A Laddered Annuity Portfolio
 

In contrast to the 4% rule, a time-segmented and laddered annuity strategy provides a safer, more predictable path to retirement income. Here’s how it works:
 

1. Guaranteed Lifetime Income: A portion of your portfolio is allocated to a series of annuities, each with its own start date. This is called a “laddered” annuity strategy. Each annuity provides guaranteed, increasing income for the rest of your life, and by laddering them, you can ensure that your income keeps pace with inflation. In many cases, you can solve for 100% of your retirement income needs using only about half of your portfolio balance.
    

2. Liquidity for Emergencies: The other half of your portfolio remains invested in more liquid assets, like equities or bonds, so that you have access to funds in case of an emergency. This portion is free to grow, undisturbed by withdrawals, which allows you to enjoy the benefits of compound growth.
    

3. Reduced Risk: With a laddered annuity, you’re essentially “locking in” a portion of your income, regardless of what happens in the market. You no longer need to rely on the market’s performance to cover your living expenses, and you have the peace of mind of knowing your income will be there for you — for life.
    

4. Growth Potential: Meanwhile, the remaining portion of your portfolio can stay in the market, allowing for long-term growth. You get the best of both worlds: guaranteed income to cover your essential needs, and the opportunity for upside growth in your equity investments.
   
    

The Bottom Line: Security, Predictability, and Less Risk
 

While the 4% rule may have worked for some in the past, it’s no longer the optimal solution for most retirees. It carries too much risk — both market risk and sequence of returns risk — and it requires too much capital to generate a reasonable level of income. Most importantly, it leaves retirees dependent on the market's uncertain performance over a 20-30 year period.
 

A laddered annuity strategy offers retirees a more secure and predictable way to generate retirement income.

By allocating a portion of your portfolio to annuities for guaranteed lifetime income and using the rest of your portfolio for growth, you create a balanced, more stable income plan that can withstand market volatility and inflation. In the end, this approach provides more peace of mind, less risk, and a better chance for a comfortable and sustainable retirement.
 

If you want to explore whether a laddered annuity strategy might be right for you, it’s important to consult with an advisor who specializes in retirement income planning. Don't settle for an income plan that depends entirely on the whims of the market — take control of your future and give yourself the stability you deserve.