As Inflation Fears Rise, Here’s How To Protect Your Portfolio
Pundits are sounding the alarm on inflation, causing Americans to worry about their retirement.
Billionaire hedge fund manager Paul Tudor Jones told CNBC on Wednesday that inflation is a major threat to the US economy and markets.
His comments echo those of others who have also recently expressed concern. Earlier this month, Jeremy Siegel, a professor of finance at Wharton School, who is known for his positive market outlook, said he expected inflation to be a much bigger problem than the Federal Reserve. Yet some, like market bull Jim Paulsen, have played down these fears.
To be sure, inflation has been low for a long time, said Christine Benz, Morningstar’s personal finance manager.
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So when the prices of goods and services started to climb in recent months, Americans noticed.
“We’ve had such a favorable environment from an inflation point of view, so I think we’ve all gotten a little complacent,” she said.
Inflation is the number one concern of retirees these days, overtaking health care, according to a survey by Personal Capital and Kiplinger’s Personal Finance. Specifically, 77% cited declining purchasing power as a major concern, followed by healthcare (74%) and the financial strength of Social Security (71%).
Still, there are strategies to help protect your portfolio against inflation as you approach your retirement.
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You should have cash, or cash, savings to cover about three to six months of living expenses in an emergency, as well as savings for any other planned expenses, like buying a home. That’s it, according to certified financial planner James Burton, chief marketing officer at Personal Capital.
“It’s tempting to keep a lot of money in cash because it seems safe, but the truth is, it’s not secure,” he said. “It’s likely to be eroded by inflation very significantly over time.”
For example, consumer prices jumped 5.4% in September year over year. Yet bank interest rates on savings accounts are well below 1%.
The bulk of your retirement portfolio should be in stocks when you’re under 50, Morningstar’s Benz said. The average annual rate of return on the S&P 500 over the past 20 years is 9.55%, according to FactSet.
“This should help you defend against inflation and should help it continue to grow above inflation,” she said.
Close to retirement
In your 50s, start shifting your portfolio a bit more to safer assets, like fixed income, to protect yourself against a market shock in the early years of retirement, Benz said.
Some of your fixed income may be inflation-protected treasury securities. Like traditional Treasury bonds, TIPS are issued and backed by the US government. However, TIPS provides protection against inflation because the major part changes with inflation, as measured by the Consumer Price Index.
While not essential, you can also consider assets that have historically been correlated with inflation, such as commodities, she said. “They have shown some ability to hedge against inflation.”
You can also diversify your stocks by adding areas such as natural resources and energy, as well as real estate, Benz suggested.
In your 60s, you need to start seriously thinking about your source of retirement income. For many, Social Security is part of the equation and it is an inflation-adjusted benefit. In 2022, the cost of living adjustment will be 5.9%, the biggest increase in 40 years.
Your golden years
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Once you stop working, you will earn income from your retirement accounts. Benz suggests having around 20% of your bond portfolio in TIPS. You can also look at other categories such as commodities.
Historically, bad bonds have offered higher yields to hedge against inflation, although that is not the case at the moment, Benz said.
“Every stone has been turned over in search of yield,” she said. “You are probably not paid to take on the credit risk.”
Remember, even if you need an income, you are still saving for years to come when you retire.
“Retirement is not turning into a full cash situation,” said Burton at Personal Capital. “It is important to stay invested.
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