There’s no doubt, if your retirement savings aren’t built on a stable foundation, your retirement income could erode even during “normal times.”
In a recent article on retirement planning, Joe F. Schmitz took to Kiplinger to suggest a retirement strategy to address this concern. Schmitz advises:
When building a retirement plan, consider implementing a five-pillar approach that includes taxes, investments, income, health care and estate planning.
These read a lot like common sense pieces of advice that every person should consider to increase the chances their golden years are financially secure. It’s worth a read!
Here’s the problem: There are two persistent forces that corrode those pillars, constantly threatening to undermine your stable foundation.
Let’s take a look…
Inflation can ruin the best-made retirement plans
Returning to Schmitz’s article, we find another bit of common sense advice that everyone should consider:
Prepare for inflation. If you need $5,000 per month to live on today, then you will need $10,000 per month to live on in 20 years, if we assume 3% inflation, which is close to the historic average.
“Close to the historic average,” hmm? Well, not really.
Since the abandonment of the gold standard 50 years ago, the actual historic average is 3.99%. There’s a lot of volatility, though – the annual rate of inflation ranges from 0.1%-13.5%. Of course, that leaves out the “improvements” made to inflation measures in the early 1980s, but we’ve discussed that issue before. (See the historical rates of inflation here.)
The current rate of inflation is officially 3.5% as of March 2024, up from 3.2% in February. That’s surprisingly below the fifty-year average – good news, right?
Well, yes and no.
It’s good news that it’s not worse right now – 2022 ruined a lot of dreams with an official inflation rate of 8%.
It’s bad news because inflation is cumulative. That 8% of purchasing power we lost in 2022 is gone forever.
A year of 8% inflation followed by a year of 4.1% inflation means, in two years, prices have risen 12.1% overall. As long as the rate of inflation stays positive, we’re losing purchasing power – an eye-watering 19% overall since January 2021.
Those are averages, of course – so some sectors like transportation or insurance might rise more or less than average.
Or healthcare costs – one of our pillars:
According to data from Fidelity, the average couple age 65 or older will pay more than $300,000 in health care costs during their retirement. Do you have a plan to have money readily available when you need it most while still enabling growth to keep up with inflation and rising health care costs?
Remember, that’s $300,000 in today’s dollars. Who knows how much that number will rise a year or a decade from now?
Inflation has also been persistently above 3% for longer than any time since the late 1980s, according to Charles Billelo.
So every single pillar you might consider building your retirement on is subject to the destructive effects of inflation, which we sometimes call the “tax no one voted for (and everyone pays),” in one way or another.
The real challenge here is to guess what the rate of inflation will be… We could guess 2% (that’s the Federal Reserve’s target, after all). But that’s only half the fifty-year average. Lowballing that number is a huge mistake.
We could guess 4% which is more or less the fifty-year average. But what happens if your retirement coincides with another inflation brush-fire? That’s trouble… Learn more about sequence of returns risk here.
It’s enough to make Americans feel less secure about their finances, let alone their retirement savings, according to a recent Northwestern Mutual survey:
One-third (33%) of adults say they do not feel financially secure. This represents a jump from 27% who said the same last year and is the highest level of insecurity recorded in the study’s history…
Inflation is the clear driver underpinning that insecurity.
That’s partly because even though the rate of inflation has eased a bit recently, the financial impacts of persistent price increases are still unbearable. It also holds true that the only people able to downplay inflation right now are wealthy enough to absorb high prices without resorting to credit use (or sacrificing meals).
In fact, the rate of inflation is still so bad that the “magic number” Americans think they need to save for retirement rose 53% in the last four years, according to a recent report:
When it comes to retirement, Americans have a new number in mind — $1.46 million — for how much they think they will need to live comfortably, according to new research from Northwestern Mutual.
That estimate is up 53% since 2020, when Americans said they would need $951,000, as the cost of living has surged in recent years. It is also up 15% from last year, when respondents said they would need $1.27 million.
The worst part is, no one is even sure if that’s enough!
Our cost of living just rose 19% (or more) in just three years.
According to these survey results, the primary lesson most people learned from this episode is save a whole lot more.
That’s not a bad idea. But even saving 50% more for retirement might not be enough…
The other factor that complicates retirement planning
In very broad strokes, there are three sorts of financial assets you can invest in:
- Economically sensitive assets which grow in value during booms and good economic times.
- Countercyclical assets which do best during recessions and crises.
- Cash which is just about the only “neutral” asset – but it’s also of questionable long-term value, thanks to inflation.
Economic volatility is the other persistent trend that can make building a stable retirement frustrating.
We measure economic activity with Gross Domestic Product (GDP) – a very high-level gauge of economic activity. Take a look at this chart:
See how much the lines jump up and down? That’s volatility.
When the line’s going up, economically sensitive assets tend to dominate and everyone feels rich.
When the line plunges, the story changes. Last year’s winners are now losers, and countercyclical assets tend to rise (or at least not to fall).
Here’s the takeaway: When you’re planning for the long term, there is no “normal.” There’s no business-as-usual. You have to make sure your plan accounts for good times and bad times, too.
That’s why diversification is so crucial for a stable financial future! Proper diversification lowers volatility – increases stability – without sacrificing returns. Diversification is one of the very, very few sure things in investing.
And it’s one of the few things we can control directly.
The importance of proper diversification cannot be overstated.
There’s one type of asset that enhances diversification, resists inflation and tends to do very well even during the worst economic times…
Stability is the opposite of uncertainty
I previously mentioned that diversification is one of the few things we can control in our retirement plan. Here’s a simple three-step process, focusing on what you can do rather than on economic volatility or the rate of inflation.
Can you save more?
- While we can’t control how much our savings grow, we can control how much we’re saving. If you’re still in the accumulation phase of retirement planning, explore options for increasing your savings.
- Lowering investment expenses, especially taxes, is as good as saving more. So make sure you’re making the most of opportunities to defer or eliminate taxes on your retirement savings. For example, you may qualify for a mega backdoor Roth IRA.
Examine your investments
- Are they concentrated in economically-sensitive assets? (If so, you could enter a recession at the same time your savings take a massive hit – and that’s bad news!)
- Are they concentrated in counter-cyclical assets? If so, you might not enjoy the full benefits of economic booms.
- Do you have more cash than you need for your emergency fund? If so, you’re probably losing purchasing power.
Are your savings properly diversified?
- Consider the classic example of a bank teller who has her savings and checking account where she works. She could lose both her job and access to her money in just one bad day.
- Make sure you’ve diversified across the different types of assets.
- Don’t expect too much from Social Security.
- Consider adding inflation-resistant investments to your savings.
- Consider whether adding physical precious metals to your savings would help you accomplish your goals.
A shockingly small number of Americans own any physical gold or silver in their retirement savings. And that’s a shame, because precious metals can add a layer of diversification to your savings you can’t get anywhere else. Gold is arguably the best countercyclical asset you can own. Silver’s demand from both industry and investors make it another excellent option for diversifying your savings even farther.
Best of all, physical gold and silver are just about the only financial assets that aren’t based on debt or an IOU – they’re real wealth you can hold in your hands.
You can learn more about the advantages of diversifying with precious metals like gold and silver in our free information kit (updated for 2024!).
Whether or not physical precious metals are a good choice for you, please do consider the pillars of retirement savings stability. A little time and thought now could spare you years of sleepless nights…
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Peter Reagan is a financial market strategist at Birch Gold Group. As the Precious Metal IRA Specialists, Birch Gold helps Americans protect their retirement savings with physical gold and silver. Based in the Los Angeles area, the company has been in business since 2003. It has an A+ Rating.