Spokane Journal of Business

Prepare for savings adjustments in retirement years

Retaining some stocks can help hedge inflation

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Capital One Group recently surveyed 1,005 adults for its Financial Freedom Study. In the questions regarding retirement issues, the responses suggest that, apparently, it’s not a major thing for most pre-retirees. Here’s some of what they found.

Just 16% of those surveyed name increasing retirement savings as a top priority. Twenty-seven percent say traveling and 23% say weight loss is a priority. People spend more time planning and preparing for a vacation than for a 20-plus-year retirement. And that’s regardless of their income, age, and education.

We have the privilege of working with many of our clients prior to and during their retirements. We’ve seen many of the surprises they’ve experienced during their retired lives. I want to share some of the most common adjustments we’ve seen them have to make.

Medicare won’t pay for all your health care expenses. Generally, becoming eligible for Medicare at age 65 certainly helps make your health care planning easier. And it can help lower your out-of-pocket spending on many health care expenses. However, most people are unaware that long-term care, perhaps the biggest health care expense you may have to face in retirement, isn’t covered by Medicare at all.

So you need to have a plan in place for these costs. In addition, you’ll still have premiums and deductibles for all your regular care, and potentially for a Medicare supplemental policy.

You’ll likely still need money invested in the stock market. This can be a stunner for those who have been taught to believe that you must “be very conservative with your funds when you’re retired.”

Depending on how early you choose to retire, it’s reasonable to expect your retirement will last 20 years or even longer. To help you keep up with inflation and, in my experience, improve the likelihood of maintaining your standard of living throughout your retirement, I strongly believe you need to have exposure to growth. That means keeping, or placing, a good portion of your retirement assets in the stock market.

This need for long-term growth is why we recommend using a strategy of asset allocation to meet the timing and duration of your various goals. It’s never an “all in one” approach as there is NO single investment that can meet all your different needs. It’s all about the timing of your needs—whether that need is a one-time or ongoing requirement—that will help create the best mix of investments for you.

With stocks, it’s a real possibility that investors in them will have to suffer very long periods of minimal, if not negative, returns. Furthermore, these long droughts don’t seem to have much to do with easily explainable events such as natural disasters or war.

You also need the growth that comes from your stock investments in order to fight the inflation monster—the hidden tax, which has again reared its ugly head.

A piece from the Wells Fargo Investment Institute says, “Today, despite the relatively modest inflation from 1985 through last year, you need more than twice the number of dollars you would have needed to buy the same amount of goods and services that you could in 1985.” This is because, historically, consumers have seen prices rise by about 3% per year.

You can use something called the Rule of 72 to help you determine how long it will take something to double. It works like this: Simply take the 3% long-term average annual inflation rate and divide it into 72. The answer is 24. That means, assuming the 3% average over the period, it will take 24 years for something to double in cost.

Using the same rule, you can determine how long, assuming an annual rate, it will take an asset to double in value. I think this really helps demonstrate why, without involving any emotions, it’s important to have assets invested in stocks.

As this is written, the U.S. 10-year Treasury was 3.2%. A good quality corporate bond would give you about 4.6% for the same period. By dividing each of these bond returns into 72, you will find that the corporate bond would double your money in about 15.5 years. The T-note would take 22.5 years to double.

So, if inflation resets to the long-term average of just about 3%, your overall costs shall have doubled in 24 years. At 9%, while unlikely to stay at those levels in my opinion, your costs are double in just nine years. The corporate bond, again assuming the long-term average for inflation, would have doubled your money in just over 15.5 years. However, the lower paying, higher quality 10-year T-note, having taken 22.5 years to double itself, says you would have seen your buying power drop significantly.

And, in both cases, this is before taxes are even considered.

Think total-return—growth plus any dividends or interest. Your stock portion can be thought of as building future income.

Transitioning from being a saver to being a spender can be harder than you think. After years of saving for retirement, the shift to becoming a spender can be emotionally challenging for many. Think about it: Watching your account balances vary as you draw down your savings, as opposed to growing with regular new contributions as they were during your working years, can make some retirees feel guilty when it comes to spending the savings they’ve worked so hard to accumulate.

If you were a diligent saver, remember that it’s OK to spend down your savings. After all, that’s what that money is there for. Just make sure that your spending levels can be sustained throughout the duration of your retirement.

No matter how much you plan, retirement will find a way to surprise you. That’s just a fact of life. Hopefully, though, the planning you do will help mitigate any potential downsides from those surprises while helping you cherish the joyful ones.

You can mitigate the effect of inflation on your retirement savings by doing these things:

•Save more than you think you’ll need, and don’t be too conservative in your investments, with the exception of  money needed for a specific use within three years, which should be very conservatively invested.

•Again, don’t be afraid to stick with mostly stocks. Despite their volatility and potential losses, stocks historically offer the best returns. These long-term gains will help you outpace inflation so your retirement can stay on track.

•Contribute to your 401(k) or workplace retirement plan at least up to any company match. Increase contributions as much as you can every year until you reach the maximum limit.

•Put money away for retirement outside of your workplace plan. If you qualify, contribute to a Roth individual retirement account. If you’re self-employed, use tax-advantaged accounts, like a Sep IRA or Solo 401(k). And if you’re over 50, be sure to take advantage of the catch-up contributions to add a little extra in all of these kinds of accounts. Save money in a taxable account, too.

I love this quote, courtesy of super blogger Eddy Elfenbein, when discussing why stocks outperform bonds over time: “Common stocks are completely different from other classes of investments. It’s the only one that captures human ingenuity, which is the ultimate asset.”

Following the 2008 market drop, many people swore off the stock market forever. People began to believe—and seemingly are believing again—that the market is a roller coaster casino with the odds heavily stacked against them.

They’re missing the fact that markets and economies are always and forever cyclical. The downturns in the cycle just happen to be feel more painful. You can always count on the certainty of uncertainty regarding most any investment class.

  • Michael Maehl

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