Helping Clients Prepare for the Unexpected

Life doesn't go as planned, and that's especially true for those in their later years. However, advisors can help clients navigate unpredictability in retirement by incorporating stress tests and contingency plans into their retirement strategies. Preparing for potential obstacles can put clients at ease and help them feel more confident and ready for the uncertain road ahead. Learn more about running stress tests and crafting contingency plans in this month's FinPlan Friday conversation with Joe.

Income InSight | stress tests and contingency plans | FinPlan Friday June 2021

FinPlan Fridays

In our video blog series, FinPlan Fridays, Covisum® Founder and President Joe Elsasser, CFP®, offers his take on the issues financial advisors see every day. Joe is a practicing financial planner with a unique perspective on the challenges Covisum provides technology solutions. Join us on the first Friday of every month for FinPlan Fridays and get helpful tips to grow your financial planning practice. 


Hi, this is Joe Elsasser, CFP®, President and Founder of Covisum, and I'm also a practicing financial advisor. Welcome to another FinPlan Friday. Today, we're going to talk about stress testing or, perhaps, more importantly, contingency planning. That's what do we do in the event we don't pass the stress test.

What is Stress Testing?

It would be nice if we could go through retirement and die precisely when we expected to die, without anything terrible happening in between. It would be great if we experienced average economic events throughout retirement. A scenario like that would make financial planning super easy. But, I'm not sure that would be a great thing because it would make most of us in this industry irrelevant.

Realistically, that's not how life works. As you go through life, you experience changes. Markets rarely perform at average often; they move to the extreme, either to the good or occasionally to the bad, and that changes how we have to deal with future years of the plan. 

Family situations evolve. A spouse may pass away early, or both people in a couple may live an unexpectedly long life. Either way, we have to plan for a variety of different potential circumstances throughout retirement. 

Now, there are a couple of different ways of dealing with that. One common way is a probability of success. In other words, we're going to run a Monte Carlo simulation and try to guess the likelihood that we'll make it through retirement on the current plan. The challenge with that is that many clients just don't get it. A 90% probability of success feels just as good to most clients as a 95% probability of success, but the spendable income under one versus the other is dramatically different. That doesn't mean anything to the client. So, what we do in our practice, and what I think many advisors have begun to do more and more of, is stress testing.

That's the idea of laying out a base case. What happens if all the averages occur? Are you on solid footing? In a base case, you'll identify situations where clients think they're ready to retire but simply aren't. And if they're not prepared to retire under a base case, they certainly aren't prepared to retire if any of those stressor events occur. If they're in a situation where they're likely to make it through retirement without any challenges in their base case, then we want to start applying some stress tests.

Some of the most common stress tests we apply are:

  • A downmarket early in retirement, known as sequence of returns risk. 
    • Are they still on track for the rest of their retirement? 
    • Are they still able to meet their goals? 
    • Even if they get a down-market early in retirement? 
  • What if one member of the household passes away from an untimely death? 
  • What if either member of the couple needs long-term care? 
    • How does that impact the cash flow of the healthy spouse?

Those are just a couple of examples. 

Another stress test that we've started to do a lot beginning in 2020 is Social Security benefit cuts. We hear more and more about the stress on the Social Security system. And so we'll say, "Okay, what if we do get a 25% benefit cut in 2034?" Is your plan still on solid footing? And it may be more drastic than that, but that's the scenario that we're using right now. 

Why Do We Stress Test?

We want to choose things that are within the realm of possibility but are also significant events. If the clients' retirement plan is okay under those situations, we've shown them that they will be okay even if these events materialize. 

Now, if their plan suggests they're not going to be okay, that this kind of an event would cause them to run out of money before they run out of life, then it's probably better to make small changes now than wait to experience the event. The other possibility is a blend: make some minor changes now and also make a contingency plan. 

We'll be able to say, "if we get that downmarket at exactly the wrong time, and it's severe enough to take us off track, what are we going to do?" Maybe cancel vacation plans, or perhaps only scale them back. Perhaps spend half of the planned budget for vacations for a few years until the portfolio has a chance to recover.

So, really what stress testing allows us to do is give the client a way to visualize possible futures that aren't exactly happy. It also gives them the confidence to say, "I know what I will do if that future materializes." 

I think that's what's most important because in the absence of doing those kinds of exercises, what do we get? We get clients who are tempted to overreact. Dealing with an overreaction in the moment is so much more complicated than when you've already rehearsed these kinds of scenarios -- when you've prepared them and set plans in place to know what you'll do if they materialize. 

Thanks for joining us. I look forward to seeing you for the next FinPlan Friday.

How Income InSight Can Help

Our retirement planning platform, Income InSight®, makes conducting stress tests and preparing clients for uncertain days ahead simple. A series of icons allow you to test a retirement strategy against potentially disruptive events like a down market, long-term health care need, early death, Social Security benefit cuts, and more. The icons appear in green if the client's money lasts through a difficult financial situation. The icons turn red if the event derails the clients' retirement plans. The stress test icons appear beside both the base case and the plan to show you a comparison between the two. When you click the red icon next to the base case, you see the exact moment the clients run out of money. When you click the green icon by the plan, you see how the suggested plan fixes to correct the issue. Advisors love the stress test feature in Income InSight. Try it for yourself for free for 10 days; no credit card required. 

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