Falah Years

When the market recovers, will your retirement account?

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If you rarely look at your 401(k), a falling balance may be your first reason to pay attention. But the balance alone cannot tell you what a fall means for your retirement.

While wages pay the bills, you may be adding money to the account. Later, you may need that account to help replace your wages. The investments could be the same on both sides of that change. What you need from them is different.

That difference is easier to understand before withdrawals begin.

The balance recovered. Its buying power took longer.

Imagine Joe and Martha ended 1999 with $100,000 invested entirely in US stocks. They added nothing and withdrew nothing through 2013.

For this example, stocks are represented by the S&P 500 return series, including dividends, published by Aswath Damodaran at NYU Stern. Dividends are payments companies make to shareholders; the calculation reinvests those payments. This is a broad stock-market benchmark, not a description of every investment a retirement account might hold.

The lower line accounts for inflation: the increase in consumer prices. It uses the Consumer Price Index for All Urban Consumers, or CPI-U, from the Bureau of Labor Statistics. That index measures changes in the price of a basket of goods and services. Your own spending may change differently.

The marked year shows what the two lines mean. Prices in the calculation were about 20% higher in 2006 than in 1999, which makes the price level about 1.20 times its starting level. Dividing the $107,804 balance by the exact price-level ratio leaves $89,908 in 1999 buying power. The account had more dollars than it started with, but those dollars bought less — which is why the balance is above the dashed line that year and the buying power is below it.

The two lines also reach their worst points six years apart. The lowest year-end balance was in 2002; the lowest year-end buying power came in 2008. The balance first passed its starting value in 2006, then fell below it again in 2008. Buying power did not first exceed the starting level until the end of 2013, seven years after that first dollar recovery and fourteen years after the end of 1999.

That does not mean stocks fell for fourteen uninterrupted years. There were substantial rises between the declines of 2000–2002 and 2008. It means this untouched account remained below its original buying power at every intervening year-end.

The same years, four different uses of the account

Now change what happens to the money entering and leaving the account. Each household starts with the same $100,000 and holds the same investments.

Every amount below is in 1999 buying power. A “$4,000 annual withdrawal” therefore means an actual dollar withdrawal that changes with inflation. It does not mean 4% of whatever balance remains each year.

For simplicity, contributions and withdrawals happen at each year-end, after that year's investment return. Actual household bills arrive throughout the year; different withdrawal timing can change the results.

“Net investment gain or loss” counts the ending balance plus withdrawals, then subtracts the starting balance and contributions. Withdrawals count because the household received that money. This is a total dollar gain or loss, not an annual rate of return.

The difference between the largest and smallest ending balances is $210,476, and it is not all damage caused by a crash. One household added $84,000. Another took out $56,000 to spend. Even without any investment gains or losses, their balances would differ by $140,000.

The remaining $70,476 is the difference in their net investment gains, the distance between their two figures in the last column. That is not the crash's damage measured cleanly: both households lived through the same market, and their gains differ because they had different sums invested, for different lengths of time.

But market movements affect what those transactions do. A share is a unit of ownership. To raise $4,000 by selling units worth $100 each, you sell 40. If their price falls to $50, raising the same $4,000 requires selling 80. Those units no longer belong to you when prices subsequently rise.

Contributions work in the other direction: the same amount of money buys more units at a lower price. That does not make every fall beneficial to someone still working. Their existing investments lose value too, and neither a recovery nor their ability to keep contributing is guaranteed.

The household that contributed through 2006 and withdrew from 2007 through 2013 illustrates a less dramatic outcome. It received $28,000 to spend and ended with $141,578, almost as much as its $100,000 starting balance plus $42,000 of contributions.

Encountering a crash near retirement did not ruin that particular household. Nor do its seven years of withdrawals establish that the account could support a full retirement.

What changes when withdrawals continue for thirty years?

A longer exercise asks whether an account can make every scheduled withdrawal for thirty years. It starts with $100,000, all in stocks, and compares two schedules across 68 historical periods in the underlying calculation.

The first schedule withdraws $4,000 a year throughout. The second withdraws $4,000 for six years, then $2,000 a year for the remaining twenty-four. Each amount maintains its initial purchasing power, and withdrawals occur at year-end.

The $100,000 is an illustrative scale, not an estimate of what retirement costs. The starting $4,000 withdrawal is 4% of that amount. The exercise does not establish an appropriate withdrawal amount for any reader.

These calculations exclude fees and taxes. A failure means the account cannot meet a scheduled withdrawal in full before the thirty years end.

The second schedule could represent another source of income beginning after six years and replacing half the amount previously withdrawn. That income is an additional household resource; the improvement is not an investment trick.

The timing and the halving are assumptions. They are not claims about when Social Security starts or how much it pays. A pension or rental income might also reduce withdrawals, but those income sources do not necessarily keep pace with inflation or remain steady. Here, the replacement income is assumed to keep covering the same purchasing power.

Scheduled withdrawals total $120,000 in the first case and $72,000 in the second. Taking out less leaves more invested. The table shows that this particular reduction also prevented the failures found in the first schedule over these historical periods.

Zero failures in this exercise does not mean zero risk for a future household. It does not establish that any outside income covering half of someone's spending guarantees that their savings will last.

The three failures under the unchanged schedule began in 1929, 1966 and 1969. Their severity differed. The 1929 account exhausted during year twenty-two, leaving eight subsequent years unfunded. The other two could not complete the final year's scheduled withdrawal.

The 1929 retirement began with a crash that has a name. The 1966 one did not. Stocks lost 13% of their buying power in 1966, a bad year rather than a catastrophe, and what followed was sixteen years in which returns were poor while inflation ran high. The resulting shortfall was less severe than the 1929 failure: the account completed twenty-nine years and had $1,454 toward a final withdrawal of $4,000. No one year explains that shortfall. With 1966's own return held at zero after inflation and nothing else changed, the same account finishes with $61,348 to spare — the first year mattered, and so did the twenty-nine after it.

The point is the account's ability to meet spending as it comes due. A market can recover after a household has already exhausted the investments it needed to participate in that recovery.

How much of this describes your account?

All the calculations above use an entirely stock-invested account. Your 401(k) may hold a mixture of stocks, bonds and other investments. That mixture is usually called its asset allocation or investment mix.

The account statement or plan website may show that breakdown. If it lists only fund names under “holdings,” the funds' own information may be needed to see what is inside them. A fund pools investors' money to hold a collection of investments.

A fund with a year in its name, such as 2035 or 2040, is commonly a target-date fund. The year generally refers to an expected retirement date. The fund holds its own investment mix, which changes over time; the year alone does not tell you its current stock percentage.

Bonds are loans to governments or companies. A conventional fixed-rate bond promises interest payments and repayment at maturity, although an issuer can fail to pay. Its market value can fall before maturity, including when newly issued bonds offer higher interest rates. Inflation can also reduce what fixed payments buy. Some bonds have inflation-linked payments instead.

A bond fund holds a collection of bonds and generally has no single date when your original investment is returned. Different types of bonds and funds behave differently. The stock examples above cannot tell you how your particular mixture would have performed.

Investment mix is one part of the connection to your own life. Two others are when withdrawals might begin and how much of your spending would depend on them. A household whose other income covers most bills has a different demand on its investments from one relying heavily on account withdrawals, even if their balances match.

What these examples can establish

The market returns are historical observations. The households are hypothetical. Their results show what the stated contributions and withdrawals would have produced under the stated assumptions.

The thirty-year periods also share many years. A retirement beginning in 1929 and one beginning in 1930 overlap for twenty-nine years. These are different slices of one US record, not 68 independent tests of the future. The count of failures is not a forecast probability.

Costs would reduce the results of an otherwise identical account. Taxes depend on the account and household and are not modeled here. Actual spending, contributions and withdrawal timing vary. The examples also cannot establish what another country's markets, or another generation's experience, would produce.

Their narrower lesson is useful: the investments remaining after withdrawals matter, even when the market eventually recovers.

Before retirement, the relevant questions can still be unfamiliar: What does this account own? When might I start using it? How much of my spending would need to come from it? Understanding those questions early gives you time to consider decisions before they take effect.

A market recovery does not restore the investments you sold to pay your bills while prices were down.

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Download the calculation code and fixed input data (ZIP). Extract it and run python3 reproduce.py in the extracted folder. Python 3 is required; no additional packages and no network access are needed. It writes the annual values behind both charts, the four households, all sixty-eight thirty-year stretches under both withdrawal schedules, and the 1966 illustration.

Methods. The first chart shows the account in dollars and in end-1999 purchasing power, both scaled to $100,000 at the end of 1999. Returns are annual and calendar-year, with dividends reinvested; inflation is the December-over-December change in CPI-U, all items, US city average, not seasonally adjusted — series CPIAUCNS at FRED, read a second time as CUUR0000SA0 from the Bureau of Labor Statistics as a transcription check. Contributions and withdrawals happen at year-end, after that year's investment return, and each one holds its purchasing power at the year-end the run begins from: end-1999 for the four households, end-1928 for the second chart. A balance is floored at zero. A failure is an inability to meet a scheduled withdrawal in full; later scheduled withdrawals are then recorded as unmet rather than paid. The 1966 illustration sets only the first year's return after inflation to zero and leaves every later return and withdrawal unchanged.

The thirty-year calculations use sixty-eight start years, 1929 through 1996. That is this article's indexing convention rather than a limit on history: a thirty-year run needs a balance already in place at the year-end before its first year, and the record begins at 1928. Those sixty-eight stretches overlap one another, so they are sixty-eight slices of one record rather than sixty-eight independent records.