Stock market drawdowns during retirement…..

A follower wrote in to suggest a stronger assertion of the value of dividend-focused investing for retirees concerned about drawing down their portfolio. He argues that for those investors, the sequence of their returns matters hugely, especially in a market not moving up steadily. (He was responding to my post about the difference between a harvested capital gain vs. a dividend payment.)  He writes: “The argument goes that there’s no difference between an income stream derived from selling stocks or one derived from amassing dividends. But that isn’t true. Selling stocks in a bad year means selling more stocks. Dividends lessen that effect. If dividends are the whole stream, no stocks need be sold. If they’re part of the stream, they reduce the number that need be sold. That allows the portfolio to recover faster…. During an investor’s decumulation phase, a growth portfolio [on the decline] is destroyed by a poor sequence of returns [as the retiree is forced to sell more principal to meet a distribution need]. A dividend portfolio withstands it [better]…. Dividends … militate against sequence of return risk in retirement….”

I appreciate the comment, the enthusiasm, & the logic. Perhaps the return pattern of 2022 will get some of the more vocal retirement pundits to highlight the constructive role of dividend income as opposed to expecting to harvest just capital gains and sell principal.

In a draft of the upcoming Ownership Dividend, I make the point in a parallel fashion: “Dividend payments dampen total return volatility of individual investments because a portion of a stock’s annual total return appears steadily and more or less predictably. The absence of those regular payments leaves investors entirely dependent on the whims of the market and other investors. The difference between the two experiences is crystal clear in the stock market over the past three decades. High-dividend paying securities have a much lower standard deviation—a smoother ride—than the dividend free-stock-price-only roller coaster rides. The gap has narrowed in the recent decade as investors got used to dividend-free stocks as investments rather than speculations. There are times, however, such as the first half of 2022, when the stock price chart is down and to the right, sharply for many of the darlings of the prior five years. This is not to suggest that dividend-paying stocks can’t sell off dramatically, but the non-paying companies do seem more prone to hitting big air pockets. The question is whether the volatility gap will return to its normal level in the decades ahead. I believe it will.

I suppose it depends on what you want. Traders and hedge fund will prefer the wild ride. Retirees investing through the stock market should, all other factors held equal, prefer the coupon-clipping, coupon-growing experience.