How predictable income can help investors sleep better when the market’s volatile

Photography by Getty; Illustration by Bankrate

Whenever capital markets become more volatile than usual, and news headlines begin to sound as if the world is coming to an end, even the most seasoned investors can feel the impulse to panic. For anyone nearing retirement or already in it, those who have structured their investment portfolios to include predictable (or even guaranteed) income streams — such as from an annuity or dividend-paying stocks — often feel more comfortable and confident continuing to spend money through market downturns.

A retired person with predictable monthly income covering their essentials, such as housing, food and healthcare, feels less pressure to sell investments when stocks are slumping. This psychological cushion allows them to stay invested, avoid emotional decision-making and potentially ride out market corrections with less stress than those drawing their monthly income from a fluctuating portfolio.

Many retirees receive a significant portion of their income from fixed, predictable sources such as Social Security or a pension (if they’re lucky). However, those who leave the workforce before their full retirement age are typically forced to rely more heavily on their investment portfolios to fund day-to-day living expenses. And as a result, they may be forced to sell assets during market downturns — at the exact same moment when the value of those investments is decreasing.

This creates a painful feedback loop. To meet the same income need, you have to sell more shares than you would under normal market conditions, effectively locking in losses that might have otherwise been temporary. And once sold, those shares are no longer available to participate in any eventual market recovery.

What happens with your money early in retirement has an impact

The danger of experiencing poor investment performance early in retirement, right when withdrawals from your portfolio are just beginning, is what is referred to as sequence of returns risk. While the average annual return of the markets over a 30- or 40-year retirement might look great on paper, the order in which those returns happen matters tremendously.

There is also the psychological impact that I have observed in my nearly 15 years of advising retirees. If a person’s first couple years in retirement coincide with a bear market, they will likely live more frugally throughout the remainder of their retirement — even after the markets have recovered. As a result, cautious retirees may unnecessarily deny themselves things they want due to ongoing fears related to their financial situation.

Guaranteeing at least a portion of your monthly income helps offset that vulnerability and promotes better long-term outcomes by providing stability when it’s needed most. One way to achieve this is to incorporate an annuity into your overall investment mix.

Set up income that you can rely on

It’s important to note that not all annuities are created equal, and they should not be seen as a one-size-fits-all solution. Critics often point to high fees, long surrender periods and opaque terms that seem more tailored to benefit the insurer than the retiree — and that reputation is not entirely unearned.

However, for years, the industry has been going through a makeover, and many of today’s annuity contracts offer features such as 10 percent free withdrawal provisions, more transparent fees and even inflation-adjusted income options. These improvements are making annuities more appropriate for a broader range of investors — particularly those who are conservative by nature and are more concerned with income stability over outsize returns.

Another way retirees can create a psychological and financial cushion during volatile markets is by holding stocks of companies with long histories of increasing their dividend payouts year after year — otherwise known as “Dividend Aristocrats.” Companies that consistently grow their dividends tend to prioritize them above other uses of capital. Regularly rising payouts also show investors the business is stable and values returning cash to shareholders.

While not technically guaranteed, these dividend payments can provide a steady stream of income that reduces the need to sell assets during downturns. Plus, dividend-paying stocks tend to be less volatile during market sell-offs compared to high-flying growth stocks.

However, over the last five years, many investors have grown accustomed to the outsize returns generated by growth stocks, making it emotionally difficult to part with them. As the S&P 500 has repeatedly notched new highs, the temptation to stick with the hot hand has been strong. But for those now feeling uncertain amid the backdrop of a global trade war, persistent inflation concerns and shifting interest rate policies, this may be an opportune moment to reassess.

Bottom line

In many ways, guaranteed income functions as a psychological firewall. It doesn’t prevent market volatility, but it can prevent that volatility from causing you to panic. And in retirement, where the margin for error is often much slimmer than during your working years, that kind of peace of mind is paramount.

Editorial Disclaimer: All investors are advised to conduct their own independent research into investment strategies before making an investment decision. In addition, investors are advised that past investment product performance is no guarantee of future price appreciation.