Inflation reduces the purchasing power of your retirement savings over time. Some investments, like gold and real estate, offer more protection from inflation than others, such as long-term, fixed-rate investments. Dividing your retirement investments across inflation-resistant funds and asset classes is a smart way to future-proof your savings.
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Brandon Renfro, Ph.D., CFP®, RICP®, EA
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- Published: April 22, 2023
- Updated: July 10, 2023
- 7 min read time
- This page features 5 Cited Research Articles
- Edited By
- Inflation, which is the gradual increase of the price of goods and services over time, is normal and to be expected.
- If inflation suddenly spikes, the rise in prices can outperform the return on your investments, which is particularly troubling for retirees.
- The best way to protect your retirement savings from inflation is to balance the asset allocation of your portfolio. If you invest across a variety of assets, like gold, real estate, commodities and TIPS, the mix of asset classes will offer protection against inflation.
How Can Inflation Impact Your Retirement?
Inflation can affect how your retirement unfolds since it means the cost of goods and services will continue to rise over time. For retirees, the real day-to-day effect of inflation is that each dollar you remove from your savings during your retirement will buy less than it did when you first invested it. When operating on a fixed income, the loss of purchasing power can be worrisome.
A slow but steady increase in prices over time is normal and a sign that the economy is growing. If the investments in your retirement savings increase at a greater rate than inflation, inflation will be unnoticeable. However, inflation can suddenly spike due to unforeseen world events. These periods of high inflation can become a real concern for retirees whose savings might suddenly seem insufficient for their long-term needs.
There is no single solution to avoiding the risk of inflation, but a sound strategy is to develop a mix of assets in your retirement savings to lower your overall exposure to inflation.
Investment Options To Consider During Inflation
Warren Buffett, CEO of Berkshire Hathaway, has compared inflation to a tapeworm, saying it eats away at your investments from the inside. He’s also equated inflation to running in the wrong direction on an escalator, which forces you to expend valuable energy just to stay where you are. Diversifying your portfolio is the best way to shrink the tapeworm and start moving in the right direction.
A New York Times columnist spoke to Richard Thaler, a Nobel Prize winner and behavioral economist, where he advised investors to create an investment plan and stick to it, even when approaching or entering retirement. “People in their 60s these days have many years of life expectancy,” he said. They should approach their retirement investments as if they intend to invest for decades.
No investment is magically immune to inflation. For instance, some exchange-traded funds (ETFs) purporting to be inflation-resistant during the sharp spike of 2022 could not deliver on their promise.
Instead of searching for a single solution, consider holding a mix of assets to make your retirement investments more resistant to inflationary pressures. Remember, it’s important to build your portfolio in a manner that suits both your needs and risk tolerance. Below are some recommended investment assets to help you offset the risk of inflation.
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Precious metals, especially gold, are often considered a very secure investment, particularly during times of low interest rates or high inflation, according to U.S. News. When world stock markets waver, uncertain investors usually turn to gold, which tends to recover its value more quickly than currencies or other equities.
Gold is both a reliable investment and also liquid, meaning you can easily convert it to cash if required. Despite its secure nature, when interest rates rise, gold might not increase in value the same way other yield-paying assets will.
Gold is an investment you can own physically or electronically. You can buy gold coins or bullion from reputable dealers, though you must then assume responsibility for safe and secure storage. Electronically, you can buy shares in gold mining companies or invest in gold futures or gold-centered ETFs. In the long term, gold is a solid choice to store value and a decent way to protect your investments from inflation.
Real estate is another investment generally considered resistant to inflation. However, the U.S. subprime mortgage crises of 2007 to 2008, proved that in an interconnected global economy, colliding financial problems can cause even real estate to lose value in sudden and shocking ways.
There are two ways to invest in real estate: buying individual properties or through a real estate investment trust (REIT). REITs own income-producing real estate like large residential buildings. Since rent and property value both tend to rise along with inflation, owning REIT shares is a way to gain some access to real estate value without having to directly deal with property maintenance.
The other option is to buy an investment property and rent it out, gaining both rental income and an asset that will likely increase in value. However, how you finance a housing purchase can affect the return on your investment. If you require a mortgage when interest rates are high, inflation can eat into the potential of your return. But if you enjoy home maintenance and interacting with tenants, owning a rental property might be a good choice.
Commodities are raw materials and primary products, including items such as coffee, electricity, oil and soybeans. The essential nature of commodities means that they often signal if inflation is on the way; when the price of commodities rises, so will the price of the products made with them.
The price of commodities can fluctuate widely due to supply and investor interest. Since many commodities are agricultural in nature and/or required for manufacturing, external disruptions like war, weather events or supply chain interruptions can cause prices to suddenly soar or crash. But their very nature ensures commodities will always be in demand. Investing in one specific commodity is a time-consuming gamble. A better approach is to invest broadly through a commodities fund.
Treasury Inflation-Protected Securities (TIPS)
Treasury Inflation-Protected Securities, also known as TIPS, are U.S. Treasury bonds that are deliberately designed to protect your investment from inflation. You can choose to buy TIPS for a term of five, 10 or 30 years for a fixed interest rate that is never less than 0.125%, and you are paid the interest every six months. The face value of your TIPS will rise and fall with inflation. When your bond matures, you will receive whichever is higher: the original face value of your bond or the inflation-adjusted value.
While particularly attractive if inflation is high, TIPS offers a very safe, U.S. Treasury-backed investment for anyone deeply concerned about inflation. Not only will you never get back less than your original investment at maturity, but you will also receive interest throughout the life of your investment.
How Diversifying Your Portfolio Can Help Protect Against Inflation
The main reason to diversify your investment portfolio is to protect against risk. If your investments are spread across different asset classes, then even if one type of asset experiences a setback, your other investments likely won’t. Inflation is a different kind of risk, as it affects the prices of everyday goods and services rather than a particular stock or asset class, but the principle is the same.
Financial advisors will often start by recommending an asset mix of 60% stocks and 40% bonds, as equities tend to outperform bonds over time. However, it’s important to keep in mind that choosing the right mix of investments for your retirement savings will depend on your personal plans and needs. Some investors might prefer a wider spread of assets as they approach retirement; others might appreciate more liquidity when they retire — that way they can easily take advantage of travel and other opportunities.
Thaler has another recommendation for retirees looking to protect themselves from inflation: delay taking out your Social Security benefit as long as possible. The longer you wait, the more Social Security benefits you will receive with a cost-of-living adjustment (COLA). Your benefit will be higher and your purchasing power will go further, making Social Security another pillar in the foundation of an inflation-proof retirement.
Editor Malori Malone contributed to this article.
5 Cited Research Articles
- Duignan, Brian. (2023, March 29). Financial crisis of 2007-08. Retrieved from https://www.britannica.com/event/financial-crisis-of-2007-2008
- Wallerstein, Eric. (2023, March 9). Inflation Protected Funds Struggle to Perform as Advertised. Retrieved from https://www.wsj.com/articles/inflation-protection-funds-struggle-to-perform-as-advertised-17e8c73c?mod=Searchresults_pos1&page=1
- Sommer, Jeff. (2022, March 13). When You Think About Investing, Don’t Think About the News. Retrieved from https://www.nytimes.com/2022/03/13/business/richard-thaler-investments-advice.html?action=click&module=RelatedLinks&pgtype=Article
- Mohamed, Theron. (2021, November 14). Warren Buffet called inflation ‘a gigantic corporate tapeworm.’ Here’s the investor’s classic warning about rising prices. Retrieved from https://markets.businessinsider.com/news/stocks/warren-buffet-berkshire-hathaway-warned-inflation-prices-tapeworm-investors-business-2021-5-1030456755
- Treasury Direct. (n.d.). Treasury Inflation-Protected Securities (TIPS). Retrieved from https://www.treasurydirect.gov/marketable-securities/tips/
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