What’s Missing From The Equation?
If you read and watch a lot of news, you know that there’s a big debate going on in Washington about how to “stimulate” the economy and “create” jobs.
This won’t be the forum to debate Washington’s role in our economy, but one idea that is being tossed around right now affects you massively. And, that is the Fed’s “loose” money policy as a means of reducing unemployment.
Interestingly, when I meet with someone for the first time for their Retirement Strategy Assessment™, and we begin to discuss their “numbers” for retirement, there is typically something of critical importance that is missing from their planning mindset.
See if this sounds familiar:
“OK, so it looks like I need to withdraw $50,000 per year from my investments to supplement my social security and my pension. Since I have $1 million in investments, then I need to earn 5% per year on my investments to make it work, right?”
Can you tell me what’s missing?
If you guessed inflation, then you’re absolutely right.
I can’t begin to tell you how many people say, “oh yeah” when I call this to their attention as if it’s a minor, insignificant oversight.
How important of an oversight is this?
Well, if inflation averages only 4% per year, you must withdraw $74,000 in 10 years to pay for what $50,000 buys you today.
That’s just to remain even!
Think about these numbers for a minute:
What do you think they represent? I’ll give you a hint: they’re not annual returns for the Dow Jones Industrials.
They’re the annual rates of inflation from 1977 to 1981. Isn’t that amazing? How soon we forget.
Contrast that with 2005 to 2009:
Now, why is it so important to drudge up these numbers? Well, sometimes we need a bucket of “cold reality” dumped over our heads to wake us up.
This is something I’ve been pointing out for years. Now that imminent inflation is in the news due to Fed policy, some people are taking notice.
The problem is: how much control do you have over the rate of inflation?
The answer: no control.
Ben Bernanke and The Federal Reserve try to use monetary policy to control it (we hope), but who can predict how successful they will be 10, 20, 30 years down the road? And, at what cost to our economy as a whole?
Forecasting Your Future
The challenge for you when you plan for the future is that you have no guarantees.
What you can control, however, is what assumptions you use. And, when it comes to your money lasting the rest of your life, I recommend being on the conservative side with your assumptions.
It has pained me over the last several years to hear expert after “so-called” expert recommend using a 3% rate of inflation when forecasting your retirement resources into the future.
Where did that come from? Well, because we’ve experienced low inflation over the last decade, many “so-called” experts have been lulled to sleep in assuming that inflation will continue to be held in check so it’s safe to count on it.
That would be like assuming that the 20+% average annual rate of return of the stock market that we experienced in the late 1990’s was “normal” and a good number to use when planning for the future!
1% = 7 Years of Income
Let me illustrate how important this is, and how dangerous it is to assume low rates of inflation forever. Let’s assume that you:
- start with the same amount of money,
- you spend the same amount each year,
- you achieve the same investment rate of return over your lifetime.
A one percent increase in the rate of inflation results in your money running out seven years earlier.
Imagine living to age 85, but having your money run out at age 78!
Think about that. You could have done everything else right, and still run out of money seven years earlier because you were unknowingly being “aggressive” with your planning assumptions.
From a wishful thinking standpoint, I’d like to think inflation won’t ever get that high again as it did back in the late 1970s. But, if your goal is to have your money last the rest of your life, banking on a lifetime of low inflation is a dangerous proposition.
We’ve always assumed a higher rate of inflation with our members’ Retirement Resource Forecasters™ and I strongly recommend that you do the same.
If you forecast a low rate of inflation and you’re wrong, you’ve got a real problem on your hands down the road.
However, if you forecast a higher rate and you’re wrong, you’ll have more money than you can spend.
That’s a good problem to have!
Committed To Your Relaxing Retirement,
The Retirement Coach
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