The biggest concern for retirees is how inflation impacts their purchasing power.2 Inflation averaged 2.4 percent over the same time period. 3 This means that even if inflation is low, retirees will be hurt more than others because the expenditures that directly affect them tend to grow.
How can I safeguard my retirement funds against inflation?
Over time, inflation can erode the purchasing power of your money. Inflation has an impact on your retirement income since it raises future costs of goods and services, diminishing your income’s future purchasing power. Even a moderate rate of inflation can have a major impact on the purchasing power of retirees.
Consider cost-of-living adjustments: Annual cost-of-living adjustments and market-related performance assist Social Security and certain pensions and annuities stay up with inflation. Including investments that can help keep up with inflation, such as growth-oriented investments (e.g., stocks or stock mutual funds), Treasury inflation-protected securities (TIPS), real estate securities, and commodities, in an age-appropriate, diversified portfolio that also reflects your risk tolerance and financial circumstances, may make sense.
Does the cost of retirement rise with inflation?
The government uses inflation as one of the benchmarks for determining whether or not to increase retirement plan contribution limits and Social Security benefit distributions, and if so, by how much. For example, the 401(k) contribution limit increased by $1,000 from 2021 to 2022, reaching $20,500 ($27,000 if you’re 50 or older). While the IRA contribution ceiling of $6,000 remained unchanged, the income thresholds for contribution eligibility increased.
Cost-of-living adjustments (COLAs) are applied to Social Security and Supplemental Security Income benefits to guarantee that they keep up with inflation, thanks to legislation passed in 1973. Social Security benefits increased by 5.9% for payments beginning in January 2022. So, if a Social Security recipient normally earned $1,000 per month, they may now expect to get roughly $1,059. While it won’t totally compensate for the 7% inflation increase in 2021, it will go a long way.
For retirement planning, what rate of inflation should I use?
When budgeting for retirement, financial gurus recommend considering a 3% yearly inflation rate. That is, in fact, a greater rate than the government has calculated in recent years.
The Bureau of Labor Statistics calculates the current Consumer Price Index (CPI) by tracking monthly average prices of consumer goods. The CPI is defined as “a measure of the average change over time in the prices paid by urban consumers for a market basket of consumer goods and services.”
The rate of inflation is determined by the change in the CPI from one period to the next.
Because their spending is more oriented on products and services with more rapidly increasing costs particularly health care and housing retirees experience cost-of-living increases that are higher than national averages.
As a result, the government devised the CPI-E, an unpublished, experimental inflation gauge for older Americans. From December 1982 to the present, the CPI-E reflects estimated expenditure habits of Americans aged 62 and up.
From May 2018 to May 2019, consumer prices grew 1.8 percent, according to the Consumer Price Index of the United States Department of Labor.
What is the safest investment for your retirement funds?
Although no investment is completely risk-free, there are five that are considered the safest to own (bank savings accounts, CDs, Treasury securities, money market accounts, and fixed annuities). FDIC-insured bank savings accounts and CDs are common. Treasury securities are notes backed by the government.
How will you protect yourself from inflation in 2022?
During the epidemic, there was a surge in demand for products and labor, resulting in the fastest rate of consumer price and wage inflation since the early 1990s. As the pandemic passes and spending moves toward services rather than products, we believe inflation will reduce due to greater labor supply. In the end, it should not jeopardize our base case scenario, which predicts a significantly more vibrant cycle in the 2020s than we experienced in the 2010s.
However, both prices and salaries are expected to rise at a pretty rapid pace. We believe there are three ways for investors to navigate this climate.
Look to real estate for inflation protection
Because leases are regularly reset higher, real estate investors often profit from a natural inflation hedge. Furthermore, we believe the residential and industrial real estate sectors will benefit from strong structural tailwinds. Following the global financial crisis, chronic underbuilding (compared to trend) resulted in a housing shortage in the United States. Workers’ labor is in high demand, and earnings are rising, ensuring that housing remains cheap even as home prices rise. Migration enabled by remote work is also offering opportunities.
The global trend toward e-commerce will demand additional warehouses, storage, and logistics in the industrial sector. The need for further investment is highlighted by problems in the global supply chain that became apparent in 2021. We’re also seeing an increase in demand for life science research facilities. While we prefer to invest in real estate through private markets, publicly traded real estate investment trusts (REITs) have outperformed other equities sectors during periods of rising inflation. In a nutshell, real estate is our favourite option to invest in a higher-inflation climate.
Rely on equities, especially cyclical ones, to drive capital appreciation.
While economists dispute the complexities of inflation, the fundamental principles underlying the current phase appear to be clear: Strong demand and economic growth are driving inflation. Because corporate earnings are also good in inflationary settings, equities tend to do well. We anticipate that stocks of companies that are more closely linked to economic activity and interest rates will likely outperform. Bank stock valuations, for example, have generally been linked to inflation forecasts. In cyclical industries like industrials and commodities, companies with pricing power could see strong revenue increases. Stocks that do well when growth and inflation are rare (think the digital economy) may, on the other hand, be at more risk. In our opinion, you should maintain a fair balance between the two categories, and expect a hard environment for fixed income portfolios as interest rates climb.
Avoid excess cash, and consider borrowing.
In our Long-Term Capital Market Assumptions, 80 percent of the assets we consider have a higher predicted return than inflation. Investing surplus cash in a portfolio that meets your goals and time horizon is the simplest approach to protect purchasing power. Borrowing may be prudent in the current situation. Interest rates remain low, particularly when compared to inflation. A mortgage is a straightforward approach to profit from a healthy home market. If the Federal Reserve reacts to rising inflation by boosting interest rates, borrowing expenses may become less appealing.
Key takeaways
Higher inflation is likely to persist through 2022, but it does not have to be a reason for alarm. Investors can create a portfolio that considers inflation risks and attempts to manage them. While excess cash appears unappealing, relying on equities rather than fixed income and focusing on cyclical sectors and real estate could prove to be profitable strategies. Meanwhile, while policy interest rates are still low, borrowing and settling existing liabilities may be prudent.
In the context of your individual circumstances and aspirations, your J.P. Morgan team can provide you with more information on how the present environment is influencing risk and return possibilities.
What should I do with my money after I retire?
What should I do with my retirement funds?
- You can deposit the funds into a 401(k) or 403(b) plan sponsored by your company.
- You can invest the funds in your own tax-advantaged retirement account, such as an IRA.
Should I factor in inflation while planning my retirement?
Inflation is critical. However, it is simply one of the dangers that retirees must consider and plan for. And, like the other risks you must address, you can create an income strategy to ensure that rising expenditures (both current and anticipated) do not jeopardize your retirement.