What you can do if inflation disrupts your retirement savings strategy
The headlines are scary: U.S. inflation is at 8.2%, the highest in over 40 years; the Federal Reserve is warning that it will likely take a recession to get price increases in check; war and politics continue to pose tremendous uncertainty. As retirement savers, you may feel stuck between a rock and a (very) hard place.
You had probably set your retirement goals but now it feels like the entire game has changed. Savers are asking themselves: Will I have enough income to live in retirement? What should I do with my portfolio since stocks and bonds have lost value in the past year? Will it get worse or better? Fortunately, J.P. Morgan Wealth Management can help guide you through reorienting your retirement strategy to overcome this period of uncertainty.
Keep calm and carry on
One of the first, most important strategic moves when facing a deep shift in your economic outlook is to keep calm. For people with several years until retirement, it can be beneficial to do nothing at all, or at least nothing drastic.
Economists, analysts and journalists agree that it’s very difficult to predict what the economy will be like 12 months from now, much less 12 years from now. Some people believe that central banks around the world will only be able to bring down inflation by causing a global recession. Others think that inflation is here to stay for many more years, regardless of how hard central banks fight it, as the old economic order gives way to something new. History doesn’t promise future results, but it does give confidence to one of the fundamental principles of investing: Staying invested in a diversified portfolio of stocks and bonds for the long term can offer a high probability of generating strong enough returns to preserve, even grow, the value of your money over time.
If you are not retired but nearing retirement, you may consider working longer to maximize your Social Security benefits and to give your savings more time to grow.
Savings strategies for people who are still working
If you are worried about your future cash flow or loss of purchasing power in the future, there are measured steps you can take to prepare.
Keep contributing to your 401(k) or IRA
If you are making regular contributions to a 401(k) or to an IRA, consider continuing to do so. It may feel like you are throwing good money after bad, but in fact, making steady contributions over many years is the foundation of a strategy called dollar cost averaging.
Dollar cost averaging helps you invest in stocks and bonds without trying to time the market or getting emotional over daily price fluctuations. It effectively implements a “level pricing “ strategy. If you buy $1,000 worth of shares every month, the months when the price is high buys fewer shares, and the months when the price is low buys more shares.
The value of your 401(k) might be disappointingly lower than it was in the past. But buying steadily into the market when prices are low means that you will have more shares when the market recovers. The past 10 years saw growth-oriented stocks like many of those in the technology sector outperform the broad market. Rising inflation and higher interest rates make these investments (as well as other, more speculative investments like cryptocurrency) less attractive in the present. The rate of appreciation these stocks have enjoyed will be harder to come by as it becomes more expensive for these companies to borrow money fueling their growth.
Now is a good time to look at your portfolio and consider whether it makes sense to rebalance, reducing exposure to certain asset classes and reinvesting that money into securities that do better in a high-inflation environment, or that are less volatile.
Shifting from high-leverage, high-growth investments to investments that generate income is one strategy to discuss with your advisor. Some examples of this kind of investment are:
- Dividend-paying stocks. Stocks with a history of solid dividends tend to be well-established and high quality businesses. They are often found in more defensive sectors, like consumer staples or utilities, which see relatively steady revenue generation regardless of what’s going on in the economic backdrop.
- Dividend-focused exchange-traded funds (ETFs) and mutual funds. ETFs and mutual funds that focus on dividend-paying companies not only give you the benefit of investing in these kinds of stocks – they also allow you to diversify your holdings in one fund and may lower your risk.
- Inflation protected government bonds. The U.S. Treasury sells many kinds of bonds with longer or shorter maturities. They also sell two kinds of inflation-protected securities: Treasury Inflation-Protected Securities (TIPS) and I-Bonds. There are some restrictions around investing in inflation-protected securities, so you should ask your financial advisor if they are suitable for your portfolio.
- Short(er)-duration government bonds. Higher interest rates mean higher yields on bonds – and lower prices. Buying and holding these securities to maturity means that so long as the issuer doesn’t default, you collect coupon payments over the life of the bond and receive its par value back at the end of it. Shorter-term bonds (e.g., two years or less) offer the flexibility to change your strategy and reinvest your capital differently if circumstances change drastically in the next two years, but note that there may be reinvestment risk – if interest rates fall over that period, an investor may not be able to put that money to work at the same level of yield in the future.
- Real estate. A big part of rising prices is rising rents. Even though higher interest rates mean that borrowing money to own real estate is more expensive (and house prices may slow their recent meteoric growth), you don’t have to own a specific property to benefit from the rising cost of housing. Real estate investment trusts (REITs) can be a hassle-free way to get diversified exposure to this market.
If investing were risk free, you would never have to worry about changing your retirement savings strategy. Fortunately, you can get ahead of events with a solid strategy.
