Making Retirement Savings Last

A central goal in retirement is asset protection.  One must preserve what one has built up over a number of years while gaining enough income to pay for expenses.  Unlike the 30-year old worker, someone in retirement cannot necessarily just wait for a recovery if his portfolio drops by 50%.  He needs to generate money from which to live and a drop in portfolio value might mean a drop in income.  This might result in the need to use principle – the seed corn – from the account.  Once the principle starts to be depleted, it begins a death spiral since the lower principle results in lower income from the account, which then requires more principle be spent.

The two factors with which the retiree must contend are preserving wealth from loss due to market changes and preventing the loss of value due to inflation.  Unfortunately these goals run counter to each other. The easiest way to prevent losses due to the markets is to stay out of the markets.  Put money in a safe deposit box at the bank and the retiree will be immune to market changes.

Inflation is always present, however, and even in the comfy confines of the safe deposit box one’s wealth is being devoured constantly.  Over a period of thirty years or more the price of goods can easily double, resulting in the effective loss of half of one’s nest egg even if the value in dollar terms remains unchanged.  If there are hyper-inflationary times as in the 1970’s,  account values can be destroyed very quickly.

Preserving wealth against inflation requires placing the money in things that will also increase in value with inflation.  While the value of the dollar may drop, the value of tangible property, companies, and commodities will remain fixed over long periods of time.  Remember that currency is simply a way to make trade simpler by creating something for which everyone would be willing to trade.  If you want to trade an hour of your work as a doctor for a dinner at a restaurant, you don’t need to find someone at the restaurant in need of your services in order to trade for the dinner.  You simply trade your services for money and then the money for the dinner.  The value of the medical services, however, will always be worth the value of a dinner out, however, even if both end up costing twice as much in terms of dollars.

So, inflation protection requires one buy things of tangible value, but one also needs protection from market forces.  A strategy must take both of these factors into account.  The strategy should therefore involve the following:

  1. Investment in assets that keep value with inflation.

    This includes stocks, real estate, bonds, art, durable household goods, and hard commodities.

  2. Keep sufficient cash to wait out market events.

    You should always have at least five years’ worth of cash on hand so that if the market falls you will be able to wait things out.  Too much cash, however, will lose value to inflation, so keeping more than 10 years’ worth of cash is poor strategy.

  3. Reduce liabilities as much as possible.

    If you have paid off your house, don’t have student loans or credit card bills, and have no other recurring expenses besides utilities and food, that amount you will need to sustain you will be very low.   In good times you can use added income for luxuries like travel and toys, but you can cut way back if needed and wait out a recession.

  4. Build as large a portfolio as possible.

    The bigger your portfolio size is compared to your needed income, the less you will be affected by interest rates and other factors that affect income since you can generate much more income than you need.  You can also take more risks if you have a bigger nest egg, which means you will have a better return and a bigger income.  A person with a $25 million portfolio who needs $50,000 per year to live can afford to be largely invested in stocks since even if the portfolio drops by 50% in value there would still be plenty of assets to generate needed income.  One with only $1 million, however, could not withstand such a drop.

  5. Diversify.

    The more different types of things in which you have your worth stored, the less likely you will see a drop in value.  If you own stocks in many different market sectors, real estate (both investment and personal), bonds, and even useful items (like tools) and fine furnishings, chances are low that everything will decline in value at once.

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Disclaimer: This blog is not meant to give financial planning or tax advice.  It gives general information on investment strategy, picking stocks, and generally managing money to build wealth. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. Tax advice should be sought from a CPA.  All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.

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