Inflation Impact on Retirement 0
Whether you’re 25 years old or three days away from collecting Social Security, inflation is one of the biggest enemies your retirement strategy is likely to face. Investors can be sure that inflation will relentlessly gnaw into the value of each dollar in their portfolios as the years pass, forcing them to find investments that can gain value even faster — or at least hold their own.
When calculating which of your current expenses you will have in retirement, keep in mind that they are in today’s dollars. To get a better idea of what they will be when you are ready to retire, you should adjust them for inflation. Unfortunately, no one knows the future rate of inflation, so you are on your own to make a guess.
The erosion can seem slow from year to year. Price inflation averaged only about 2.78% a year from 2000 through 2007, according to Inflationdata.com. But even that relatively low rate can have dramatic effects over time — at a 2.78% annual inflation rate, you would need to amass more than $194,000 over 25 years to buy the same stuff that $100,000 buys today. The average 3.42% inflation rate over a much broader period — 1913 to 2007 — would have upped the ante on your initial $100,000 over 25 years to nearly $232,000.
The table below shows how much to multiply your expenses by for different rates of inflation.
For example, if you have 15 years until retirement and expect a 5 percent inflation rate, you should multiply your current expenses by the inflation table factor of 2.08. A current need of $5,000 per year translates to a requirement of $10,400 per year 15 years later—just to stay even ($5,000 x 2.08)!
Inflation has been around or under 4 percent over the last few years. However, we have experienced periods of double-digit inflation (in the 1980s). Once you have adjusted your expenses for inflation, you should add them up. That is how much cash inflow you need in retirement.
Most investment advisers recommend that retirees keep at least some of their money in a diversified stock portfolio, particularly in the early years of retirement. It’s best to look for stocks with a history of rising dividend payments or the mutual funds that invest in them — they’re a good sign that the companies themselves are managing to out-earn any inflationary erosion.
Bonds and certificates of deposit — the mainstay of most retirement portfolios — tend to offer fixed payouts, which can be quickly eroded by inflation. Alternative investments, like federally issued treasury inflation-protected securities that offer returns that rise or fall with inflation, may be worth a look.
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