The Power of Consistent Compounding Returns

Two people. Same starting balance, same withdrawal amount, same average annual return over the same period. One runs out of money in their seventies. The other dies with roughly twice what they started with.

The only difference between them is the order the returns arrived in.

That’s the standard illustration of sequence risk, and it’s used constantly to argue that consistent returns beat volatile ones. Which is true — for exactly one of the two situations you might be in, and dangerously misleading for the other.

The Short Answer

Consistent compounding returns matter enormously once you’re withdrawing money, because early losses force you to sell more shares at depressed prices and those shares never participate in the recovery. But while you’re still contributing and not withdrawing, the order of returns barely affects your outcome — and early declines can actually help you, since you buy more units cheaply.

The Distinction Almost Every Article Blurs

Here’s my main claim: “consistency of returns” is close to irrelevant during accumulation and close to decisive during withdrawal, and merging the two phases produces advice that’s wrong for whoever is reading it.

The mechanism is straightforward once stated. During your working years, a 20% loss followed by a 25% gain produces a similar result to the reverse, because you’re not pulling money out. The order washes out. What you end up with is essentially determined by the geometric return over the whole period, not the path it took to get there.

Once withdrawals begin, that stops being true. Selling investments during a downturn to cover living expenses means those shares are gone forever and can’t participate in any recovery. The loss becomes permanent in a way a paper loss never is. Later gains are then trying to grow from a base that was structurally reduced at the worst possible moment.

So the same phrase — “consistent returns matter” — describes a near-irrelevance in one phase and one of the most consequential factors in the other.

The Number That Should Reframe Retirement Planning

Research by Wade Pfau estimates that approximately 77% of a portfolio’s final retirement outcome can be explained by the returns of just the first 10 years.

Seventy-seven percent, from one decade out of what might be thirty.

That’s not a rounding factor. It means the bulk of the outcome is determined in a window most people treat as just the beginning, and it means a plan built on a thirty-year average return is quietly ignoring where nearly all the variance actually lives.

It also explains why “the market always recovers” is true and irrelevant simultaneously. Markets recover. Portfolios that were being drawn down during the decline do not necessarily recover with them — the capital sold to fund living expenses at the bottom isn’t there to participate.

The Counterintuitive Half Nobody Says Out Loud

If you’re in accumulation and contributing regularly, an early market decline is helpful, not harmful.

Your contributions buy more units at lower prices. The base you’re building grows faster in unit terms precisely during the periods that feel worst. A young investor who experiences a bad first five years and keeps contributing frequently ends up better off than one who experiences a great first five years and then a poor stretch later, because the cheap accumulation happened when contributions had maximum purchasing power.

This inverts the emotional experience completely. The stretch that feels like proof the strategy is failing is often the stretch doing the most work — which compounds the psychological problem I’ve covered in the lag phase, where a working plan and a failing one look identical from inside.

I’d go further: for someone in accumulation, the more dangerous scenario is a long, smooth, rising early period followed by a crash near the end. That’s the sequence that quietly builds confidence and a large balance, then applies the damage at maximum exposure. Nobody warns accumulators about that, because “markets went up for years” doesn’t sound like a risk.

Why the Average Return Number Is Almost Useless

Arithmetic averages treat a +20% and a −20% as equal and opposite. They aren’t. As one analysis puts it, losses are much more powerful than gains — they carry the same weight in an average calculation, but their real impacts are unequal.

A portfolio can post a respectable-looking average return and deliver an actual dollar gain of zero. The average isn’t lying, exactly. It’s answering a question nobody is asking, because you don’t retire on an average — you retire on what’s actually left.

This is the same variance effect I’ve written about from the trading side in the volatility drag article. The formula is identical; only the context changes. And it’s another face of the reason intuition about compounding is systematically wrong — we reason in averages because averages are what we’re shown.

What Actually Produces Consistency — And What Doesn’t

Since consistency of returns matters most where you have least control, the useful moves are structural rather than predictive:

During accumulation, optimize contribution consistency, not return consistency. This is the variable you actually control and the one that shortens the flat period. Chasing smoother returns during accumulation typically means accepting lower returns for a benefit you don’t need yet.

Approaching withdrawal, the risk profile genuinely should change. Not because you’ve become more cautious as a personality, but because the mathematics of your situation changed. Sequence risk begins before retirement — significant declines in the years immediately preceding withdrawals reduce the base before you’ve drawn a single unit. The window that matters starts earlier than people assume.

Hold enough non-market cash to avoid forced selling. This is the single most direct defence, and it’s the same principle as an emergency fund operating at a different scale — the point is never having to sell into a decline. Building that buffer is protective in both phases for the same underlying reason.

Stress-test against the bad sequence, not the average one. One useful diagnostic: run your plan twice — once across your full horizon, and once looking only at outcomes where the first decade underperformed. If the success rate drops sharply in the second version, your plan is sequence-dependent. That’s a specific, checkable test rather than a vague instruction to be careful.

Know your crossover point. The transition from accumulation to distribution isn’t a birthday — it’s when the portfolio starts funding you rather than the reverse, covered in the crossover point. That’s the moment the advice in this article flips, and knowing where it sits matters more than knowing your average return.

The Limitation Worth Being Honest About

Most planning tools model returns using distributions that don’t handle extreme events well. As one analysis notes, a Gaussian model will underestimate the probability of the worst sequences — precisely the sequences that cause the damage. So a plan that looks robust in a simulator may be less robust than the simulator suggests, in a direction that isn’t conservative.

There’s also a real cost to over-correcting. De-risking too early to avoid sequence risk means accepting lower expected returns for potentially decades, and inflation erodes conservative holdings continuously in the meantime. Sequence risk is one hazard among several, and treating it as the only one produces its own failure mode — running out of money slowly instead of quickly.

The honest framing is that you’re choosing which risk to carry, not eliminating risk. Which is generally true of money, and the reason sequencing rules outperform allocation rules — sequencing tells you which risk is currently the relevant one.

Questions Worth Asking

If I’m still working and contributing, should I worry about sequence risk at all?

Much less than you’d think from most articles, and the worry runs in an unexpected direction. While contributing without withdrawing, the order of returns largely washes out, and early declines can help you. What deserves attention is the decade immediately before you begin withdrawing, since a large decline there reduces the base before distributions even start.

Does this mean I should switch to safer investments as I approach retirement?

The mathematics of your situation genuinely change at that transition, so some adjustment is usually warranted. But de-risking too early carries its own cost — decades of lower expected returns while inflation runs, which can produce a slow failure instead of a fast one. The timing and degree matter more than the direction.

Why do retirement calculators miss this?

Many project a single average return forward, which assumes one smooth path rather than the thousands of different sequences that could produce the same average. Even simulators that model variation often use distributions that understate the probability of the worst early sequences.

How do I actually test whether my plan is sequence-dependent?

Run it twice — once across your normal horizon, and once restricted to scenarios where the first decade underperforms. If the success rate falls sharply in the restricted version, sequence is doing most of the work in your outcome, and holding more non-market cash is the targeted fix.

Is a smooth, consistent return always better than a volatile one with the same average?

Once withdrawals begin, generally yes. Before withdrawals, not necessarily — a volatile path with the same geometric return produces a similar outcome, and volatility while contributing can improve unit accumulation. The answer genuinely depends on which phase you’re in, which is why blanket statements about this mislead.