Shielding Your Retirement Nest Egg From Inflation

So, the Wall Street Journal offers some suggestions for products that can provide some protection against inflation, and discusses the benefits and drawbacks for each.

Postponing claiming Social Security benefits is one way to increase inflation-protected retirement income. Retirees can start collecting social security benefits any time between the ages of 62 and 70, but the payment increases for every month they delay. Plus, Social Security benefits are adjusted annually to reflect increases in the Labor Department’s CPI-W, which measures inflation that affects blue-collar workers.

However, this method won’t work for everybody. According to Bill Reichenstein, head of research at SocialSecuritySolutions.com, which sells Social Security claiming advice, a person who defers collecting benefits until age 70 would have to live to 80.5 years old to come out ahead.

These inflation-protected U.S. savings bonds offer a fixed rate for up to 30 years, plus an inflation rate that adjusts semiannually. Meaning, investors in I bonds are guaranteed to recover their principal plus inflation over 30 years.

I bonds track the Labor Department’s CPI-U, a measure of urban inflation, and can be bought directly from the U.S. government at TreasuryDirect.gov.

While the yield on a regular U.S. 30-year Treasury bond is currently 2.24%, the I bonds’ initial annualized yield is 7.12%. With its fixed rate zero, I bonds won’t beat inflation. However, since yields on conventional Treasury bonds are now negative when inflation is taken into account, I bonds have an advantage.

One downside to I bonds is that each investor can purchase only up to $10,000 a year, though an investor can buy up to an extra $5,000 if they elect to receive their federal income tax refund in I bonds.

Treasury inflation-protected securities are bonds backed by the U.S. government with principal and coupon payments that adjust to keep pace with the consumer-price index. TIPS tend to do well when inflation exceeds expectations.

TIPS can be bought through TreasuryDirect.gov, brokers, or TIPS funds. Christine Benz, a personal finance director at Morningstar, suggests that investors should put between 10%–20% of their fixed income portfolios into TIPS.

But with TIPS yields negative today, buyers would lose money on bonds they held to maturity, which makes them “a very costly method of inflation insurance,” Campbell Harvey, a professor at Duke University’s Fuqua School of Business, told the Journal. Additionally, a sharp decline in bond prices would also hurt TIPS even if inflation is rising.

Harvey suggests that investors reallocate their money from the worst-performing sectors during inflation, which include consumer durable stocks such as auto makers, and into the energy and natural resource stocks, which tend to fare best.

Data suggest that real estate investment trusts may do well, since landlords have often been able to raise rents to keep up with inflation. Commodities may also do well, considering that prices of metals, oil, and agricultural products “tend to hold their value or even outperform in inflationary surges,” according to Harvey.

However, given that commodities can have big performance swings, Morningstar portfolio strategist Amy Arnott recommends capping exposure at 3% or less of a portfolio.

And while gold has kept up with inflation, Harvey said that it’s only done so over very long periods but hasn’t been reliable in the short term due to its high volatility.

Nationwide a variety of actively managed ETFs for advisors that cater to a range of investment exposures and strategies for those seeking retirement income options for their clients as part of their bigger retirement planning picture.

For more news, information, and strategy, visit the Retirement Income Channel.