Market crash: How the bucket strategy can protect your retirement savings

The bucket strategy is basically a distribution strategy used to manage retirement cash flow and reduce sequence risk. It works by separating your investment assets into three distinct buckets based on when the funds will be needed

This bucket is designed to fund immediate living expenses and hold emergency funds. It typically holds one to three years' worth of cash flow. As this money is needed in the short term, it must be highly liquid and stable. Appropriate investments include cash equivalents such as savings accounts and liquid funds. Fixed and recurring deposits in large banks can also be used for this bucket as they can be redeemed at any time.

This bucket is meant to hold assets that will not be needed for three to seven years, or up to 10 years. The goal of this bucket is to outpace inflation while tolerating a moderate amount of volatility. Investment under this bucket may be done in high-quality government and corporate bonds, high-grade dividend-paying blue-chip stocks, high-quality REITs, etc.

This bucket should be reserved for money that will not be accessed for at least seven to ten years. Because of the long time horizon, it can be allocated to higher-risk and higher-return investments. It may be invested in growth assets, such as stocks, high-yield bonds, equity mutual funds, real estate and commodities.

How the bucket strategy works

The bucket strategy works as a continuous replenishment framework.

For instance, when the retiree spends the cash in Bucket 1 to cover daily living expenses, assets need to be liquidated from Bucket 2 and moved into Bucket 1 to replace the spent funds.

To keep the system balanced, a corresponding amount of assets should be moved from Bucket 3 into Bucket 2.

Throughout the process, the assets remaining in the second and third buckets continue to stay invested and grow.

Moving money between buckets may be done once a year or when required. The frequency of such rebalancing may vary from one person to another, depending on many factors.

For instance, if your portfolio contains assets that generate regular cash flow on their own (such as income from a business or dividends), you might not need to actively liquidate and move investments as often. In such a situation, you can simply use this incoming cash to directly replenish the first bucket.

However, to make the most of this strategy, one must do periodic in-depth financial reviews to evaluate spending decisions, available funds, and goal achievement. Such reviews also help in determining exactly how much money needs to be moved between buckets.

Key benefits of bucket strategy during a market crash

Implementing the bucket strategy in your retirement plan will ensure a reliable cash buffer to maintain a steady standard of living despite broader market volatility.

Apart from the above, this strategy can also help with the following: