Protecting Your Finances from Inflation

[00:00:00] Eric Brotman: This is Eric Brotman, the host of Don’t Retire… Graduate!: the podcast that teaches you how to advance into retirement rather than retreating. Welcome to office hours, where we answer listeners’ questions about personal finance, retirement readiness. We received a question from George who asked, I keep hearing about inflation. Is there anything I can be doing to protect my finances? And George, if that’s not a five bell question right now with everything going on in the economic and financial world, I don’t know what it is. So let’s, let’s tackle this.

First of all, inflation is something that is often referred to as a stealth tax because it really does erode the value of your assets and your principal, and also erode your purchasing power. So it is doubly difficult for us to deal with. And what’s most challenging right now about inflation is we have generations who’ve never seen it before. Gen Z has never seen it. And most millennials don’t remember it because they were no more than college students at the very latest last time we had meaningful inflation.

In fact, in December of 2021, we recorded the highest consumer price inflation in 40 years in this country. And so even I, I’m 50 years old. Even I don’t remember that marker 40 years ago, George. So here, here’s what I can say. First of all, inflation is real and it’s an important thing to plan for.

Second of all, whether it’s here to stay or not, we’ve had such artificially low interest rates for almost two decades that all of us have to reset our expectations around how money works and how and how fixed income works and how debt works, because we’ve been very, very spoiled and arguably ever since 9/11, when interest rates, when interest rates started being artificially lowered and, and truly that’s what’s happened.

And then through the great financial crisis, when they were lowered even further in the late two thousands and into the 2010s, we haven’t had to worry about bond prices getting hurt. Bonds have been in a bull market for decades. So with inflation on the horizon, a couple of things to do:

Number one, recognize that your cash, if you hold a lot of excess cash, is not only not performing, not earning anything, it’s falling behind the cost of all goods and services, which means you’re actually getting a negative real return on your cash. And that’s true, whether you’re in a money market, a certificate of deposit, a savings account, or whether it’s buried in the coffee can under your swing set in the backyard. So, George, cash is no longer a useful, at the present, it’s not a useful asset to hold for accumulation. That does not mean you shouldn’t have some cash for emergencies and for, and for liquidity and other things. It just means that as an asset class, it’s going to continue to underperform. The difference is that now bonds, which had been a bit of a safe haven for a long time are no longer a safe haven, particularly bonds with longer duration.

So, if you’re looking at a fixed income portfolio, right now is the time to shorten the duration of your portfolio. Ideally, ladder it. Give yourself one or two years for maturities so that you’re constantly getting the opportunity to renew as interest rates are higher at higher rates. There’s an inverse relationship between interest rates and bond prices.

So when interest rates go up, bond prices fall. That is predictable. Now you only lose money on a bond if you buy it and the price falls and you sell it prior to maturity. As long as the bond doesn’t default and it pays its coupon at maturity, it pays its face value at maturity, you haven’t lost money.

You may have lost opportunity to get a higher rate somewhere else, but you haven’t lost money. What you don’t want to do is you don’t want to own bonds that you then have to sell for liquidity and do it at a time where the bond price is adverse. You will have lost money in fixed income. I encourage people to look at alternative investments for income, whether that be real estate or private debt or credit or precious metals or natural resources or other kinds of assets that don’t correlate with stocks, but that can provide some additional yield in this environment. If you’re borrowing, if you’re getting a mortgage, you want to borrow when interest rates are low. You want to borrow at a fixed rate which is logical because you don’t want your rate to go up on your mortgage when interest rates go up. Well, the same is true in reverse with a bond. When you buy a bond, all you’re doing is lending money. And if you’re lending money for a long term at a fixed rate during a low inflation or a low interest rate environment, you’re eventually going to regret having that at that asset potentially.

So keep your duration short. Look at alternatives. Don’t hold more cash than you have to for emergencies, liquidity, and capital needs. And that’s what I would tell you to do in terms of protecting your finances. Lastly, if you haven’t locked in any variable debt that you still have, run but don’t walk to do so because the timing is this is the last call for a new fixed reinvested or refinanced debt.

So, George, thanks for your question. That’s a complicated question to answer in five minutes or so. If you’d like to chat further, we’d love to talk to you about it. If you’d like to send us a question, which we might answer in a future episode of office hours, post it on our Facebook page or tweet us at @Brotmanplanning.

If you like what you hear, please subscribe to our podcast and leave a rating on Spotify or wherever you listen to your favorite. Please also check out our books, workbooks, and online financial literacy resources at brotmanmedia.com. Thanks for coming to office hours. Be sure to tune in for new content every Thursday. For now, this is your host, Eric Brotman, reminding you: don’t retire. Graduate!