Current economic indicators point to a rate of inflation we have not experienced in the recent past. The Fed has had a watchful eye on the Consumer Price Index (CPI), the most commonly referenced measure of inflation based on monthly data compiled by the U.S. Bureau of Labor Statistics. Recent spikes are causing concern and experts don’t predict any short-term drops. The greatest reality is that rising energy costs could work their way into the costs of goods and services that consumers need, leading to rising inflation.
The inflation factor. Even if inflation doesn’t soar out of control, it’s dangerous to underestimate its power as you plan your long-term financial goals. Let’s say, for example, that inflation averages three percent over the next 30 years. If you’ve saved $100,000 during those three decades, it would be worth only $40,000 at the end of that time. Here is another example that brings to reality how inflation can diminish purchasing power: With an average annual inflation rate of four percent, the car you buy today for $23,000 would cost $50,396 just 20 years from now. A pair of $100 cufflinks would cost $222 in 20 years. Higher rates of inflation could be even more harmful to your future financial security.
What can you do to protect your portfolio from the corrosive effects of inflation?
Consider these ideas:
Invest to beat inflation. You might think that investing in stocks is a bad idea the way the stock market dropped when the Fed recently went public with inflation concerns. While these short-term blips may prove alarming for investors with goals that are just around the corner, long-term investors should take a different perspective.
Over the long run – 10, 20, 30 years or more – stocks may provide the best potential for returns that exceed inflation. While past performance is no guarantee of future results, stocks have historically provided higher returns over time than other asset classes.
Consider these findings from Standard & Poor’s data: Between 1926 and 2018, the annual return for a portfolio comprised exclusively of stocks in S&P’s 500 Index was 10.11 percent – well above the average inflation rate of 2.95 percent for the same period. The average annual return for long-term government bonds, on the other hand, was only 4.92 percent.
While historical data creates a compelling case for stock ownership, some investors are squeamish about individual stock selection. If you’re among them, stock mutual funds may be more in your comfort zone. Stock funds offer the same growth potential as individual stocks, plus the benefit of professional management.
Maintaining a diversified mix. While stocks offer the best inflation hedge over time, they do involve greater fluctuation risk than many other investments. That is why it is best to construct a portfolio with the blend of investments with which you are comfortable. The key to diversifying your portfolio is to consider your time frame, your tolerance for risk and your anticipated income needs down the road.
If you are young and have 30 or 40 years until retirement, a mix of 70 percent stocks and 30 percent bonds may be appropriate. As retirement approaches, you may want to reduce your stock holdings while still maintaining some growth-oriented investments as a hedge against inflation. After all, your retirement assets may need to last 30 years or more and inflation will continue to work against you during that time.
Looking at the big picture. Like death and taxes, inflation is inevitable. However, you can control how you deal with the inevitable. A knowledgeable financial advisor can help you see the big picture and assemble a diversified portfolio that’s right for your goals and your time frame – keeping important factors like inflation in mind. The Registered Investment Advisory firm of Benedetti, Gucer & Associates provides comprehensive wealth management to high net worth individuals and families. Their fee-based, fiduciary advisors can help you develop a holistic plan to manage your investments in a more tax-efficient manner.
The views expressed represent the opinions of Benedetti, Gucer & Associates and are subject to change. These views are not intended as a forecast, a guarantee of future results, investment recommendation, or an offer to buy or sell any securities. The information provided is of a general nature and should not be construed as investment advice or to provide any investment, tax, financial or legal advice or service to any person.
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