Inflation has risen to levels that many parts of the developed world haven’t seen for 40 years. In fact, the Consumer Price Index (CPI) has been higher than the Federal Reserve’s (Fed’s) 2% goal for over a year. That
means most households are paying an extra $430 a month for the same goods and services we got this time last year, according to Moody’s Analytics. And we may have to deal with it for a little while longer. Why? Because we live in a complicated, connected global economy.
Check out the domino effect of the pandemic:
The pandemic > factories and businesses shuttered > the CARES Act released about $2 trillion into the economy to keep business alive > people stayed home and saved money > consumer balance sheets grew > demand increased > shipping routes backed up > supply chain bottlenecks > Great Resignation > increased wages to compete for workers to meet demand > another $1.5 trillion in stimulus > prices go up.
Bottom line: Limited supply of goods and services + increased money supply in the economy + a shortage of workers + increased demand = higher prices.
Some of these issues may be easing as the global economy opens up, including declining backlogs, shorter delivery times and higher inventory levels compared to pre-COVID-19 levels. International freight costs are also coming off recent peaks.
While the Fed has a few tactics to temper demand and subdue inflation, it takes time for monetary policy to make a noticeable impact. The Fed can’t control supply chains or how much stimulus was pumped into bank accounts, but it can control interest rates. Increasing rates and reducing liquidity slow the overall economy. Of course, these tactics come with risks, often prompting volatility in both the bond and equity markets. If all goes according to the central bankers’ plan, inflation should subside as a healthy labor market, consumer demand and wage growth find their balance.
So what can you do in the meantime?
Retirees, especially, may be concerned about steps to mitigate the effects of inflation. Here are a few concepts to stand your ground and fight inflation.
Quick, Don’t Do Something
It’s tempting to get more aggressive to cover potential gaps, but hasty investment decisions influenced by headlines could undo years of strategic financial planning. You already know this, but it bears repeating: Don’t add more risk than you’re comfortable with in the quest for exaggerated growth. We know that a diversified portfolio gives investors the best chance of increasing purchasing power over the longer term.
Find New Balance
Regularly rebalancing your portfolio takes the emotions out of investing. What happens is a beautiful thing –
you end up selling assets that have appreciated and buying assets that are discounted. For example, let’s say
your allocation is typically 60% stocks and 40% bonds. If stocks go down 20% like they did this year and bonds remain unchanged, you’d end up with a 55% stock and 45% bond allocation. When you rebalance, you realign to a 60/40 allocation by selling some bonds and buying stocks at low prices. You’re buying low, selling high and staying in line with your preferred risk profile.
Shop for Yield
With the Fed controlling the short end of the yield curve by setting the federal funds rate and influencing the long end of the curve with their balance sheet runoff, prudent investors may want to look for higher-yielding fixed income opportunities. While the Fed keeps raising rates, it’s good to keep duration low because a bond’s price volatility is correlated to its duration. For example, a 1% increase in interest rates typically causes a bond portfolio with a duration of four years to decrease by 4%. Longer duration funds experience larger decreases. Of course, many things can affect this, such as market influences and leverage within the fund, so it makes sense to consider changes carefully.
Maximize Your Social Security Strategy
Social Security rose 5.9% this year, the largest cost-of-living adjustment (COLA) in decades. Social Security annually adjusts upward based on cost of living, one of the few stable retirement income sources that does so.
That can serve as a nice safety net when you no longer have a regular paycheck. It may not fully compensate for inflation, but those COLA increases can get you closer to your goals. Your best defense is maximizing this all-important income source through claiming strategies that consider your own benefit entitlement as well as your spouse’s. Before you begin your social security payments, you will want to weigh the tradeoffs of waiting to claim and your potential longevity. Remember that you don’t have to take Social Security just because you’ve retired. If you can live without the income until age 70, then you will ensure the maximum payment for yourself and lock in the maximum spousal benefit too. Just be sure you have enough other income to keep you going and that your health is good enough that you’re likely to benefit from the wait.
Cut Back & Add a Low-Cost Safety Net
Of course, cutting back on discretionary items is also an option. Retirees have long used the 4% rule as a baseline to determine safe spending limits once they leave the workforce, but Bill Bengen, who is credited with developing that guideline, suggested to The Wall Street Journal that it may be time to temporarily rethink that number until we can determine the broader impact of volatile market conditions and higher inflation. Highly diversified portfolios statistically could support a 4.7% withdrawal rate, so new retirees may want to start a little lower.
If you’re still uneasy about keeping pace with inflation, consider a line of credit. Doing so leaves invested funds working toward your larger financial plan, while an open line of credit with securities as collateral can be leveraged in case of an emergency. If you’re considering a home equity line of credit, keep in mind that homes are typically retirees’ largest assets, so you may want to secure a home equity loan while you still have qualifying income from your professional endeavors. Many don’t charge interest until you use the funds, so it might make sense to apply before you officially retire just in case.
There is no doubt inflation is here for the coming period of time, but with these and other carefully considered steps, your retirement years will comfortably weather this economic phase.
Tom King CFP®, CLU®, AEP® is Registered Principal of King Financial Partners goKFP.com at 222 Blue Course Drive, State College, PA. King Financial is a team of credentialed professionals specializing in retirement, investment management, wealth transfer and estate planning. Tom can be reached at Tom@goKFP.com or (814) 234-3300.
There is no assurance that any investment strategy will be successful. Investing involves risk including the possible loss of capital. Sources: Raymond James Worthwhile Fall 2022. Securities offered through Raymond James Financial Services, Inc., member FINRA/SIPC.© 2021 Raymond James Financial Services, Inc., member FINRA/SIPC. Investment advisory services offered through Raymond James Financial Services Advisors, Inc. King Financial Partners is not a registered broker/dealer and is independent of Raymond James Financial Services.
