Two people can retire with the same savings, take the same withdrawals and experience the same average return, yet one runs out and the other does not. The difference is the order in which the returns arrived.
Withdrawals convert a paper loss into a permanent one
An investor who is not drawing from a portfolio can wait out a decline, because the units held are unchanged and recover when prices do.
A retiree taking income must sell units at whatever price prevails. Selling into a fall means selling more units to raise the same amount of cash.
Those units are gone, so they do not participate in the recovery. The portfolio rebounds from a smaller base than it would have had if the fall had come later.
Order of returns changes the outcome, not the average
Average return is calculated over the whole period and is indifferent to sequence. Cash flow is not, because each withdrawal happens at a specific price.
Running the same series of annual returns forwards and then backwards, with identical withdrawals, produces materially different ending balances. Nothing changes except the order.
This is why average-return projections can be misleading for anyone drawing income. They describe a path that nobody actually experiences.
The risk is concentrated in a short window
Sensitivity to sequence is highest in the years immediately before and after income starts, when the balance is at its largest and the remaining horizon is at its longest.
A decline late in retirement affects a smaller balance for fewer years, so the same percentage fall does far less damage to the overall plan.
The vulnerable window is therefore narrow and identifiable, which is what makes it possible to plan around rather than simply worry about.
Guaranteed income changes the arithmetic
Income that does not depend on portfolio prices, such as a state pension or an annuity, covers a portion of spending regardless of what markets are doing in a given year.
The larger that portion, the smaller the withdrawal that must be funded by selling assets, and the less exposed the plan is to the order in which returns arrive.
This is why the composition of retirement income matters as much as the total, and why two people with similar balances can support very different spending patterns.
Common responses trade growth for stability
Holding several years of planned withdrawals in cash or short-dated bonds allows spending to continue without selling growth assets during a fall.
Flexible spending achieves a similar effect from the other direction, by reducing withdrawals in poor years so fewer units are sold at depressed prices.
Both approaches accept lower expected returns in exchange for reduced exposure to sequence, and how much to give up is a question for a qualified adviser who knows the individual circumstances.