Page 14 - Investment Advisor March 2022

RETIREMENT PLANNING

By Michael Finke

How Inflation Really Hurts Retirees —

and What to Do About It

Here are two cheap ways to help protect against inflation, without

buying more stocks.

nflation jumped 7% in 2021, as mea-
sured by the consumer price index
Ifor urban consumers (CPI-U). Price
increases for goods ranged from strato-
spheric (51% for gasoline) to “meh”
(1.6% for dairy products).
For the most part, inflation followed a
sharp post-vaccine increase in transpor-
tation as Americans returned to work.
However, other price jumps, such as
increases in the price of beef (18.6%)
and pork (15.1%), are the result of sup-
ply chain and labor shortage issues that
have plagued the global economy.
Understandably, the reemergence of
inflation is upsetting to many Americans. lion to $4.33 trillion in 2020. These January and June the exchange rate
Huge price increases in red meat, cars, cautious investors saw their purchasing shifts, and suddenly it takes $5,000 to
and gasoline (so-called “manflation”), power drop by at least 6% in 2021. After pay for your vacation. Even though
and far more modest price increases decades of modest prices increases, you still have $4,000 in the checking
among many other consumer goods and Americans are rediscovering a source of account, you’ve taken on a new form of
services reflect the idiosyncratic nature risk that many had forgotten existed. We spending risk by not protecting yourself
of the 2021 rise in consumer prices. can lose purchasing power if our money against the price change that is no dif-
When inflation rates are uneven buys less stuff. ferent than an investment loss.
among goods and services, this creates It’s not uncommon for advisors to dis- In 2019, Boston University economist
opportunities for consumers whose miss inflation risk as a historical artifact Zvi Bodie and his co-author, the late Dirk
budget is more flexible to hold off on long ago tamed by central banks. The Cotton, made the point that planning a
buying a new car, delay a cross-country tendency to focus more on the change in retirement using nominal dollars rather
trip or swap chicken (up 9.5%) for beef. our balance sheet instead of the change than after-inflation dollars is no different
Retirees who don’t need to commute in our potential lifestyle is a phenom- than speculating on the future value of a
can likely weather today’s inflation enon known as the money illusion. foreign currency. A retiree who planned
storm more easily than workers. And A retiree with $1 million invested in to spend $50,000 in 2022 speculated ear-
many of the expenditure categories that corporate bonds on Jan. 1, 2021, had lier that $50,000 nominal dollars would
rank high on a senior’s budget, such as about $985,000 on Dec. 31, 2021 after be enough to pay for the lifestyle they
medical services (2.5%) and prescrip- a modest loss. But they could only buy hoped to lead. They gambled on modest
tion drugs (0.0%), weren’t affected at all. $916,000 worth of goods and services. inflation and got unlucky.
This is a much greater loss. In a 2014 Harvard Business Review
THE MONEY ILLUSION Imagine planning for a vacation in article, Nobel Prize winning MIT
Investors flush with an unprecedent- England in June. You’ve set aside $4,000 Professor Robert Merton compared
ed inflow of cash during the pandemic in a checking account to pay for 3,000 the near-zero perceived volatility of a
increased their investments in money British pounds worth of hotels, fish Treasury bill portfolio to the volatility Adobe Stock
market assets by 20% from $3.63 tril- and chips and lukewarm beer. Between in the amount of after-inflation income

12 INVESTMENT ADVISOR MARCH 2022 | ThinkAdvisor.com