5 ways to keep inflation from wrecking your retirement

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Inflation surged to its highest level in 40 years in 2022, leaving many investors wondering how to protect their savings. The truth is that there’s no perfect solution and what’s worked in the past isn’t guaranteed to work going forward.

But inflation remains stubbornly high, measuring 3.4 percent on an annual basis in May 2024. It’s no wonder people are concerned about the impact on their retirement planning.

If there’s one sure thing about living through periods of high inflation, it’s that your cash becomes worth less over time. Money earning less than 1 percent in a savings account is already losing value with the Federal Reserve targeting a long-term inflation rate of about 2 percent.

So what can you do to make sure inflation doesn’t eat away at your retirement? Here are five ways that can keep you better protected against high inflation.

1. Avoid holding too much cash

Everyone needs to have some money in savings and checking accounts to pay for everyday expenses, save for emergencies and plan for large purchases. But as a long-term investment, cash is not where you want to be, especially when the economy is experiencing high levels of inflation. As inflation takes its toll, you’re able to purchase fewer goods and services each year with your cash.

If you’re holding more cash than you need, consider investing some of it in long-term investments that are more likely to maintain your purchasing power over time. Experts suggest holding about three to six months worth of expenses in an emergency fund, but if you have more than that saved, you’re likely better off if you invest it.

2. Reevaluate your portfolio

In order to combat high inflation, you’ll need to invest in assets that can help you maintain your purchasing power over time. For young investors, this will likely mean sticking with a stock-heavy portfolio, but there are other investments, such as inflation-protected bonds and commodities, that may help you stay ahead of inflation.

Stocks

Stocks have proven to be effective at outpacing inflation over long periods of time. Elevated levels of inflation are undoubtedly bad for consumers and investors, but over the long term stocks have generated positive real returns, which means you’ve still grown your wealth even after inflation is taken into account.

Over the past 40 years, inflation in the U.S. has averaged around 3 percent per year, while the long-term return of the S&P 500 index is about 10 percent. Over the short term, higher levels of inflation make investors nervous and can send stocks lower as the market tries to assess the impact of higher prices on the economy. But a broad stock-market index fund is likely to be a decent investment over time as companies find ways to increase their earnings amid higher costs.

If you choose to buy individual stocks, it’s best to focus on companies that have the ability to raise prices for their products and services during inflationary periods. Legendary investor Warren Buffett once said that an unregulated toll bridge would be the ideal asset to own in an inflationary world because you would have already built the bridge and could raise prices to offset inflation. “You build the bridge in old dollars and you don’t have to keep replacing it,” he said.

Inflation-protected bonds

As you get closer to retirement age, you’ll likely be shifting your portfolio more toward fixed-income investments. It can make sense to hold a portion of that fixed-income allocation in inflation-protected bonds, such as Treasury Inflation-Protected Securities, or TIPS.

TIPS protect investors from inflation by adjusting the principal amount with inflation or deflation, as measured by the Consumer Price Index. When the bond matures, you receive either the inflation-adjusted principal or the principal amount when you purchased the bond, whichever is greater. Interest is paid twice a year and is based on the adjusted principal amount, so your payments will also rise with inflation. TIPS tend to outperform when inflation comes in above expectations.

Commodities

Commodities are one of the few asset classes that tend to do well when inflation picks up. Commodities are goods that tend to be the same regardless of who made them or where they were produced. Oil is oil and corn is corn. As demand increases across the economy and drives inflation higher, prices for these goods typically rise.

You might consider holding a portion of your portfolio in a broad commodities ETF or one tied to a specific commodity such as oil or natural gas. Commodity prices can be volatile, however, so you probably shouldn’t make these assets a major part of your portfolio. There’s an old saying about commodities: The cure for high prices is high prices and the cure for low prices is low prices. That is, supply tends to increase at high commodity prices, which helps push prices lower, and it falls at low prices, which helps push them higher.

3. Consider delaying Social Security payments

If you’re nearing retirement age and worried about how inflation could impact your golden years, it might be worth considering delaying the start of your Social Security payments. You can start receiving the payments at any time between the ages of 62 and 70, but the payment increases for each month you delay up until age 70.

The good news is that cost-of-living adjustments help boost the average Social Security check over time. The increase for 2024 was 3.4 percent. Remember that if you do delay the start of Social Security payments, you’ll need to rely on your savings or continue working to generate income until you start receiving your benefit check.

4. Plan for healthcare costs

Planning for healthcare costs during retirement is something a lot of people forget about when they’re planning for their golden years. But healthcare expenses have generally increased at a rate above overall inflation and the costs are expected to increase in the future as well. Failing to plan for medical costs can put a damper on your retirement plans.

Here are a few things you can do today to help keep rising healthcare costs from ruining your retirement.

• Save using a Health Savings Account – HSAs are similar to retirement accounts, but they are used to pay for qualified medical expenses. They come with a triple-tax benefit of tax deductible contributions, tax-deferred growth through investments and tax-free withdrawals for qualified healthcare expenses.

• Purchase long-term-care insurance – Long-term-care costs can be substantial and may come near the end of your life when retirement accounts are running low. With a long-term-care insurance policy, you’ll pay premiums in return for the insurance company covering costs related to long-term care for a period of time or for the rest of your life.

• Understand Medicare coverage – Many people mistakenly believe that Medicare covers all your medical costs once you reach age 65. Some parts of Medicare cover hospital stays, while other parts deal with prescription drug coverage. Medicare does not cover long-term care or other areas such as dental, vision or hearing. Be sure you know what is covered and what isn’t as you plan for retirement.

5. Spend less and save more

One of the surest ways to protect yourself from running short on money during retirement is to save more today and spend less once you’re no longer working. Setting aside more money today will allow it to compound for longer, increasing the amount you’ll ultimately have available.

Withdrawing money at a conservative rate during retirement is also a way to make your savings last longer. One popular approach is known as the “4 percent rule,” which says you should withdraw no more than 4 percent of your retirement account in any given year if you’re planning on a 30-year retirement. Some experts say that even this withdrawal rate isn’t conservative enough, but keeping your withdrawals as low as possible will make your retirement savings last longer.

Bottom line

It’s natural for investors to want to protect their savings from the impact of higher prices. But deviating too much from your long-term investment plan likely won’t make sense. Stocks have proven to be an effective inflation hedge over the long term as companies find ways to increase earnings and offset higher costs.

Consider adding some inflation-protected bonds or commodities to your portfolio, but be careful not to overdo it. Chasing higher yields to combat inflation can be a recipe for disaster, so be sure that you’re not taking on excessive risk.

Editorial Disclaimer: All investors are advised to conduct their own independent research into investment strategies before making an investment decision. In addition, investors are advised that past investment product performance is no guarantee of future price appreciation.