As we dig further into the income for life strategies, remember that even the best-laid plans can go awry. However, if you’ve taken any steps you are doing better than half of the country when it comes to your retirement. Nevertheless, there is one area you may have forgotten to account for—inflation. So if you’re hoping to have a nest egg outlast you then this is one caveat that should not be ignored—investing to beat inflation!
Inflation is the price at which goods and services continually rise. Since 2000, the inflation rate has hovered around 2.2%. Kiplinger predicts a 1.9% inflation for 2018. While these numbers seem small, over the next 40 years, that 1-2% can add up, therefore eroding your purchasing power in the end. Then what options should you choose when your goal is investing to beat inflation?
Sure, investing in the stock market often proves to be a bumpy ride. However, when compared to alternative investments, stocks are the clear winner in the long run. For example, the average rate of return over nine decades is 10% according to the S&P 500. With the stocks running at an all-time high, even if they plummet you will likely earn an average of around 8% in the long run—even if inflation returns to its historical norm of 3% that is still a decent cushion for your retirement funds. So outpacing inflation is a MUST.
In order to do that you will want to put as much as you are comfortable with in stocks. Some suggest an allocation of 60% at the very minimum. While I think that is a good rule of thumb, it also depends on where you are not the retirement timeline. If you are just starting out, go for it! Actually go higher than 60% if your risk tolerance allows it. I am actually 100% invested in stocks. I’m still years from retirement, so part of my plan to trump inflation is letting the market work for me all that it can.
On the other end of that spectrum if you are near or already in retirement you may not want to be invested above 60%. You may want to go even more conservative if you are in what is called the red zone (the five years before and after retirement). Perhaps somewhere around 30%—remember the buckets discussed in Income for Life #1, this percent would go in the latter bucket! After the red zone, you can increase your stock percentage based on your comfort level.
As great a tool as stocks are for surpassing inflation, they aren’t necessarily your only option. Treasury inflation-protected securities (TIPS) do their part to tip the scale in your favor as well. What exactly do I mean? Bonds issued by Uncle Sam adjust based on the inflation rate. That assures the principal rises based on the price of goods. Not only do the bonds adjust, but they offer a fixed rate of interest every six months as well. That means as your principal grows, so does the amount of interest you earn.
Earning money from stocks and bonds will garner taxes, however, you can dull the tax burden by moving these securities into the right accounts. So bonds are best utilized in tax-deferred accounts, while stocks get the most favorable tax treatment in taxable accounts. However, that is NOT a one size fits all formula. You will want to keep some stocks in a tax-deferred account as well in order to keep inflation at bay in the long run.
Talk to your financial planner for specifics on your circumstances. If you don’t have a planner, contact us and we can build an income-for-life strategy together that’s financially simple.