There’s been a lot of discussion about inflation as we’ve seen the economy rebound in 2021. Traditionally, the government’s fiscal and monetary actions — things like big-time spending and low interest rates — would lead to higher inflation. So it came as no surprise when year-over-year inflation was tracked at 5.4% in July, more than double the norm of the last couple of decades.
The real question is, will this be a lasting trend, and what are your retirement risks? Economists are coming in on both sides of the argument.
For nearly 40 years, inflation has been tame. However, tame does not mean toothless. Here’s what I mean: If I had buried a million dollars in a briefcase when I graduated from West Point in 1988, rising prices or inflation would have eroded about 60% of my purchasing power over the ensuing years. No, if you’re wondering, I didn’t have a briefcase or a million dollars, but let me get back on task. That type of erosion occurred during a period of relatively light inflation.
Here are some key considerations as you look to inflation-proof your own finances:
- Understand your personal inflation rate vs. the CPI. Inflation is typically measured by what’s known as the Consumer Price Index, or CPI. CPI measures the average change over time in the prices we, as consumers, pay for goods and services. Although the calculation is complex, keep in mind that it represents a weighted average of expenses. This is different from your personal inflation rate because your lifestyle and spending and savings habits are unique. As a starting point for your inflation-proofing efforts, consider using an online calculator to determine your personal inflation rate.
- Incorporate inflation-friendly investments in your portfolio. Consider the following options:
- Stocks. Outpacing inflation has long been a reason to invest in stocks of all types. The track record speaks for itself. Large U.S. stocks have outpaced inflation over the last 100 years by roughly 7% per year. Dig a little deeper, and you may want to check out stocks that perform well in an inflationary environment. Stocks for food, health care, energy and building materials typically have fared well. Of course, broad-based indices likely make this approach easier, less expensive and more manageable.
- Treasury inflation-protected securities. TIPS are issued by the U.S. government and are designed to keep pace with inflation. In practice, the price of these bonds increases with inflation, so they don’t lose purchasing power. While the fixed interest rate stays the same over the life of the bond, the value to which it is applied would increase in an inflationary environment. They can be purchased directly through the U.S. Treasury Department at treasurydirect.gov. At maturity, the principal amount of the bond is guaranteed by the U.S. government. The inflation adjustments to the …….
