Many investors are concerned with the recent volatility we’ve experienced in the markets; there seems to be a constant flow of bad news these days. Economic growth, both domestic and in Europe, has been fragile at best. Our economy struggles. The 9 percent unemployment rate and the debt issues plaguing the U.S. and Europe are adding to the general lack of confidence among most Americans. Well…at least inflation is low…right? Earlier in the month the Federal Reserve made a rare promise that it plans to keep short-term interest rates at virtually zero for at least another two years. With this action the Fed is asserting that inflation should not be an issue during that time.
Baseball legend “Yogi” Berra once defined inflation this way: “A nickel ain’t worth a dime anymore.” And he’s right.
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There are many ways to calculate inflation, which sometimes makes the concept confusing. Generally speaking, inflation refers to more dollars chasing the same amount of goods and services. The Bureau of Labor Statistics (BLS) defines inflation as “a measure of the average change over time in the prices paid by urban consumers for a market basket of consumer goods and services”. The BLS reports inflation, or the annual increase in Consumer Price Index for All Urban Consumers (CPI-U), at 3.6 percent through July. When you subtract food and energy, the core CPI is climbed a modest 1.8 percent. That low rate looks great, but is it an accurate measure of the cost of goods and services? Let’s take a look at price inflation over the last 12 months on some everyday items used by most people: gasoline prices are up 37 percent, fuel oil 36 percent, butter 23 percent, coffee 18 percent, milk 14 percent and the list goes on. The significant point is that most people underestimate the profound impact of inflation on the quality of their lives. This becomes more critical when you are retired and living on a fixed income. Let’s create a simple example to highlight the real-world implications of inflation using an inflation rate of 3.5 percent. If you need $60,000 a year to live now, you will need $85,000 in 10 years and $119,000 in 20 years—the increase becomes more substantial if the inflation rate is higher than 3.5 percent.
What steps can you take to really understand and manage how inflation will impact your particular situation? There are many strategies and investment vehicles that may be appropriate to consider when living in an inflationary environment. The best way to start the process is to enlist the help of an experienced and qualified financial planner, preferably a certified financial planner. Your planning engagement should be on a fee basis and should cover three fundamental areas: Financial Planning, Asset Management, and Monitor & Review.
- Review and prioritize your goals and objectives.
- Develop a summary of your current financial situation, including a net worth statement and a cash flow summary.
- Review your current investment portfolio and develop a financial management strategy, including financial projections and analysis.
- Complete a retirement planning assessment, including financial projections of assets required at your estimated retirement date. Assess estate net worth and liquidity, and develop an estate plan to help ensure objectives are met.
- Integrate, prioritize and present all strategies outlined above into a comprehensive financial plan, along with a detailed personal review of its contents.
- Develop an asset management strategy based on the completed financial plan.
- Present, implement and manage a discretionary asset management strategy.
Monitor and Review
- Monitor your investment portfolio to help ensure compliance with the financial plan and its objectives.
- Review your financial plan and investment performance annually or as your circumstances change.
Entering into a comprehensive planning process is a valuable exercise and the outcome is worth the investment of time, energy and money. It’s the most effective way to determine the impact of all the variables on your financial life—inflation being only one of them.
Dean J. Catino, CFP®, CPRC, is a managing director and cofounder of Monument Wealth Management in Alexandria, VA., a full-service investment and wealth management firm. Monument Wealth Management is backed by and securities and advisory services are offered through LPL Financial, an independent broker-dealer and Registered Investment Advisor, member FINRA/SIPC. Monument Wealth Management has been featured in several national media sources over the past several years. Follow Dean and Monument Wealth Management on their blog Off The Wall, on Twitter at @MonumentWealth and @DeanJCatino, and on their Facebook page. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for individuals. To determine which investment is appropriate please consult your financial advisor prior to investing. All performance references are historical and are not a guarantee of future results.