A market downturn in the early years of retirement can permanently reduce how long savings last. This is called sequence-of-returns risk, and it is one of the most underdiscussed threats to retirement security. The instinct for many retirees is to move everything into cash when volatility spikes.
That strategy comes with its own problem: cash loses purchasing power to inflation over time, and missing even a handful of the market’s best days can cut long-term returns significantly. There are better options, and annuities sit at the center of what many financial planners now recommend for downside protection.
Key Takeaways
- Moving retirement savings entirely to cash during a downturn can permanently damage long-term income potential.
- Annuities can provide guaranteed lifetime income regardless of what the market does.
- A diversified retirement strategy that includes an annuity layer reduces exposure to sequence-of-returns risk.
Why Cash Is Not the Safe Bet It Appears to Be
Between 2000 and 2002, the S&P 500 dropped roughly 49%. Between 2007 and 2009, it fell approximately 57%. Retirees who sold into those declines and stayed in cash missed recoveries that, in both cases, eventually pushed markets to new highs.
According to data from J.P. Morgan Asset Management, missing the 10 best trading days in the market over a 20-year period cuts overall returns by more than half.
Inflation compounds the problem. The U.S. Bureau of Labor Statistics reported that cumulative inflation from 2000 to 2024 eroded the purchasing power of a dollar by roughly 75%. A retiree holding $500,000 in cash over that period would have seen the real value of those savings shrink substantially, even without spending a cent.
The conclusion is straightforward: cash feels safe but behaves like a slow leak. The question is not whether to avoid cash, but what to use instead.
The Hidden Cost of Staying on the Sidelines
There is a version of this problem that plays out over shorter time frames too. In March 2020, the S&P 500 fell 34% in 33 days. It recovered all of those losses within five months. A retiree who moved to cash at the bottom and waited for things to “calm down” locked in a 34% loss and missed the entire recovery.
The same pattern appeared after the 2018 fourth-quarter selloff, after the 2011 debt ceiling crisis, and after the early 2016 correction.
Cash earns almost nothing in normal rate environments. High-yield savings accounts briefly competed with short-term Treasury yields in 2023 and 2024 when rates ran above 5%, but that window does not always exist.
Over the prior decade, the federal funds rate sat near zero for years at a time, and holding cash through those periods meant watching inflation erode purchasing power with no offsetting return.
Understanding Sequence-of-Returns Risk
Sequence of returns refers to the order in which investment gains and losses occur. Two retirees with identical average annual returns over 20 years can end up with dramatically different balances if one experiences losses early and the other does not.
| Scenario | Returns in Years 1-5 | Returns in Years 6-20 | Outcome at Year 20 |
|---|---|---|---|
| Retiree A | -15%, -10%, -5%, +8%, +10% | Strong positive | Portfolio depleted early |
| Retiree B | +10%, +12%, +8%, +5%, +6% | Same average returns | Portfolio sustains withdrawals |
The math is unforgiving. Withdrawing from a portfolio that is declining locks in losses. That is the core of the risk, and it explains why the early retirement years are the most financially fragile.
What Annuities Actually Do
An annuity is a contract with an insurance company. A retiree deposits a sum of money, and in exchange, the insurer guarantees a stream of income, either for a set period or for life. The income does not stop when markets fall. It does not fluctuate with the S&P 500. It arrives on schedule.
That predictability is the primary value. When a portion of retirement income is guaranteed through an annuity, a retiree no longer needs to sell investments at depressed prices to cover living expenses. The rest of the portfolio can stay invested and recover.
There are several types of annuities, and they serve different purposes:
- Fixed annuities pay a guaranteed interest rate for a set period, similar to a CD but typically with higher yields and tax deferral built in.
- Fixed indexed annuities (FIAs) credit interest based on the performance of a market index like the S&P 500, but with a floor of 0%, meaning the account value cannot decline due to market losses.
- Variable annuities invest in subaccounts similar to mutual funds and carry market risk, though many include optional riders that guarantee minimum income amounts regardless of account performance.
- Single premium immediate annuities (SPIAs) convert a lump sum into income payments that begin within a month, offering the simplest form of lifetime income.
For crash protection specifically, fixed indexed annuities and SPIAs tend to draw the most attention. FIAs protect principal while offering some upside. SPIAs eliminate longevity risk entirely by paying out for as long as the recipient lives.
Real Numbers: What a Fixed Indexed Annuity Looks Like
As of mid-2024, competitive fixed indexed annuities offered participation rates on the S&P 500 annual point-to-point strategy in the range of 20% to 55%, depending on the carrier and the specific product. That means if the index gains 20%, the annuity might credit between 4% and 11%. If the index drops 30%, the annuity credits 0%.
That 0% floor is the protection. A retiree in 2008 who held a FIA watched their annuity account value stay flat while equity portfolios fell by more than half. They did not need to sell anything to meet income needs because the annuity was already producing that income.
Surrender charges and caps are real trade-offs. Most FIAs carry surrender periods of 5 to 10 years during which withdrawals beyond a free withdrawal amount (typically 10% annually) trigger a penalty. Caps on credited interest mean gains during strong bull markets will be limited.
These are not hidden catches, but they are worth understanding before committing capital.
How Annuities Fit Into a Broader Retirement Strategy
No serious financial planner recommends putting 100% of retirement savings into an annuity. The goal is a floor, not a ceiling. Covering essential expenses (housing, food, healthcare) with guaranteed income sources, then letting investable assets take market risk for growth, is the core logic.
A practical framework looks like this:
- Social Security covers a base layer of monthly income.
- An annuity covers the gap between Social Security and essential monthly expenses.
- The remaining portfolio stays invested in equities or balanced funds for long-term growth.
This structure means a market crash does not force a retiree to sell equities at a loss. The guaranteed income from Social Security and the annuity handles ongoing expenses. The equity portfolio has time to recover.
Wade Pfau, a retirement income researcher and professor at The American College of Financial Services, has written extensively on this approach. His research consistently shows that a floor-and-upside strategy outperforms a purely systematic withdrawal approach across most market scenarios, particularly when early-retirement downturns occur.
The Inflation Question
A common concern is that fixed annuity payments lose purchasing power over time. A $3,000 monthly payment today buys less in 20 years if inflation averages even 3%. That is worth taking seriously.
Several options exist to manage it:
- Some annuities offer cost-of-living adjustment (COLA) riders that increase payments by a fixed percentage each year, typically between 1% and 3%.
- Laddering annuity purchases over time allows a retiree to buy more income later when payouts may be higher due to age and prevailing interest rates.
- Keeping a portion of savings in equities provides a natural inflation hedge over the long term.
No single solution eliminates inflation risk completely. The combination approach, part guaranteed income and part growth-oriented assets, manages both sides of the equation better than either strategy alone.
What Retirees Often Get Wrong
The most common mistake is waiting for a crash to start thinking about protection. By the time markets are falling, annuity purchases during volatile periods still lock in current rates, but the retiree has often already sold investments at a loss to fund the purchase. Planning before the crash is what makes the strategy work.
A second mistake is treating all annuities as the same product. A variable annuity with aggressive subaccounts carries significant market risk. A fixed annuity does not. A SPIA is irreversible. An FIA has liquidity provisions. The distinctions matter and warrant a conversation with a licensed professional who works in the annuity space.
Third, many retirees underestimate longevity. According to the Society of Actuaries, a 65-year-old man has roughly a 25% chance of living to age 90. A 65-year-old woman has about a 33% chance. For couples, the odds that at least one person reaches 90 climb above 50%.
Running out of money at 88 is not an abstract risk. An annuity that pays for life removes that possibility from the table.
A Note on Insurance Company Ratings
Annuity guarantees are backed by the financial strength of the issuing insurance company, not the federal government. This makes carrier ratings relevant. AM Best, Moody’s, and Standard & Poor’s all rate insurance companies on financial strength.
Sticking with carriers rated A or higher by AM Best is a reasonable baseline for evaluating annuity providers.State guaranty associations also provide a layer of protection. Most states cover annuity contract values up to $250,000 per insurer if a carrier becomes insolvent.
Spreading annuity purchases across multiple carriers is one way to extend that coverage if the total annuity allocation exceeds a single state’s limit.
When to Start the Conversation
Most financial advisors who specialize in retirement income suggest evaluating annuities between ages 55 and 70. Earlier than 55 and the opportunity cost of locking up capital is generally too high. Later than 70 and the payout benefits of waiting become harder to justify unless longevity is a clear priority.
The optimal entry point varies. Someone retiring at 62 with a pension already covering basic expenses may not need an annuity at all. Someone retiring at 60 with no pension, a $600,000 portfolio, and a 30-year time horizon is a much stronger candidate.
The Social Security gap years (before full retirement age at 67) represent another window where annuity income can bridge monthly cash flow needs without forcing early Social Security claims.
A few questions worth working through before any annuity purchase:
- What are the monthly essential expenses, and how much of that is currently covered by guaranteed income?
- How much of the portfolio can be committed without needing access for 7 to 10 years?
- Is the primary concern outliving savings, or is it market volatility during the early retirement years?
- Does the product being considered have an independent rating of A or better from AM Best?
Getting answers to those questions does not require committing to anything. It does require talking to someone licensed to sell annuities who is also operating as a fiduciary, meaning they are legally required to act in the client’s interest rather than their own commission schedule.
Fee-only financial planners who also hold insurance licenses can fill that role for many retirees.
Conclusion
Protecting retirement savings from a market crash does not require abandoning growth or hiding in cash. Annuities offer a way to secure the income floor while keeping the rest of a portfolio positioned for recovery and long-term growth, and the key is integrating them into a plan before the next downturn arrives, not after.