Why Stocks Alone Aren't Enough

Average returns are misleading

Imagine two investors who each earn an average return of 7% per year over 20 years. Investor A has good years early and bad years late. Investor B has bad years early and good years late. Same average return — drastically different outcomes if either is making withdrawals.

Investor B, who retired into a bad sequence, may run out of money by year 15. Investor A retires comfortably. The difference isn't average return — it's sequence of returns: the order in which gains and losses arrive.

During accumulation, bad early years are a buying opportunity. You're adding money, so you're buying more shares at lower prices. During decumulation, bad early years are a catastrophe. You're selling shares to fund living expenses — at the worst possible prices, permanently reducing the portfolio's ability to recover.

The numbers from history

US equity markets have experienced two catastrophic drawdowns in living memory:

A retiree withdrawing 4% per year who started in 2000 and held 100% equities faced portfolio halving in year two. Even if the market recovered fully over the following decade, the withdrawals taken during the crash locked in those losses permanently. The portfolio never fully recovers — not because the market didn't, but because the portfolio was depleted during the trough.

This is sequence risk in practice. It's not a theoretical concern. It's the dominant determinant of retirement outcomes for drawdown-phase investors.

Drawdown size drives safe withdrawal rates

The safe withdrawal rate (SWR) — the maximum you can withdraw each year without running out of money in any historical period — is not primarily determined by average returns. It's primarily determined by maximum drawdown.

A portfolio that falls 50% requires a 100% gain to recover. During that recovery, withdrawals are eating into a depleted base. The math works against you at every step.

Portfolio Charts data shows that risk parity portfolios — which have lower average equity exposure but significantly smaller drawdowns — rank among the highest on safe withdrawal rate metrics. The Golden Ratio and Golden Butterfly portfolios, with 40-42% equity, historically support higher SWRs than many all-equity portfolios, despite lower long-run average returns.

The all-bond fallacy

The natural response to sequence risk is to reduce equity exposure. Taken to its logical extreme, this leads some investors to all-bond or very-low-equity portfolios. That trades one problem for another.

In 2022, long-duration bonds (TLT) fell approximately 30%. Inflation was the dominant regime — and inflation is the exact environment where bonds fail. Meanwhile, stocks also fell 20%+. An all-bond portfolio didn't protect against 2022 any better than a stock-heavy one did.

• All-bond portfolios have insufficient growth to sustain long retirements at any meaningful withdrawal rate
• They carry significant inflation risk — real purchasing power erodes as prices rise and bond yields lag
• In stagflation (inflation + recession), they experience drawdowns alongside equities

Over-simplification in the name of "safety" can produce portfolios that fail in ways their owners don't anticipate. Reducing to bonds is not the same as reducing risk.

The diversification dividend

Adding a truly uncorrelated asset to a portfolio can improve safe withdrawal rates even if that asset has a lower expected return than equities alone. This is counterintuitive but mathematically sound.

Here's why: the benefit of reduced drawdowns outweighs the cost of lower average returns when you're in the withdrawal phase. A portfolio that falls 20% instead of 50% doesn't require you to sell nearly as many shares at depressed prices. The recovery is faster and less depleted.

Consider what happened to managed futures funds in 2022: DBMF was up approximately 22% while stocks fell 18% and long bonds fell 28%. A portfolio with 10-15% in managed futures experienced a much shallower drawdown than one without, even though managed futures significantly underperform equities in bull markets.

That's the diversification dividend. You give up some upside in great markets to avoid catastrophic downside in bad ones — and the net effect on long-term withdrawal sustainability is strongly positive.

Putting it together

A well-constructed risk parity portfolio for investors approaching or in retirement typically holds 50–70% equities alongside meaningful allocations to long bonds, gold, and managed futures. The exact split depends on individual risk tolerance and time horizon, but the structure is consistent:

• Equities for growth (split between large cap and small cap value)
• Long bonds for deflation/recession protection
• Gold for inflation and crisis coverage
• Managed futures for trend-following diversification

None of this is about predicting which environment comes next. It's about holding enough of each that no single bad sequence can destroy your retirement.