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Christine Benz

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Christine Benz: How Retirees Should Invest to Fight Inflation

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Market volatility means investors must be diversified, says Christine Benz, director of personal finance for Morningstar. For advisors, that means to make sure clients are in high-quality bonds and a variety of stocks.

Benz writes regularly on retirement for Morningstar, and also co-hosts The Long View podcast with Morningstar’s chief ratings officer, Jeff Ptak.

She states here that the current market volatility and high inflation underscores for retirees “the role of de-risking portfolios via a regular rebalancing program and shifting those proceeds to cash, especially for retirees who are in drawdown mode.”

As part of our VIP series, we asked Benz about inflation, market volatility, Social Security cost-of-living adjustments and what it all means for retirees:

Inflation has jumped 7.9% over the last 12 months. How would you advise advisors to prepare clients for either pre- or post-retirement portfolios with this threat? What are the best options now? 

The starting point is to look at the client’s actual inflation, rather than taking the CPI reading and running with it. Yes, the client’s spending may have increased, but it might be higher or lower than what CPI is saying. (I came up with a little calculator to help people calculate a personalized CPI.)

Many retirees own their own homes, for example, and health care inflation has been more benign very recently. Retirees also tend to drive a bit less than the general population, which has helped the average retiree be hurt a bit less by inflation recently.

At the portfolio level, higher inflation argues for not holding more in safe, low-returning assets than is necessary, because such assets are apt to have a negative return once inflation is factored in.

Despite their so-so performance year to date, I’m still a believer in retiree portfolios including a component of Treasury inflation-protected securities to help hedge against unexpected further increases in inflation.

I especially like short-term TIPS funds, which provide more pure inflation protection without a lot of the interest-rate-related noise of longer-term TIPS. I-bonds are also a good idea, but the issue is that larger investors won’t be able to build much of a bulwark against inflation with them due to purchase constraints.

Stocks have historically outgained inflation, so this recent flare-up underscores the importance of all retirees holding something in stocks.

And then there are a host of other assets that historically have shown some ability to defend against inflation — commodities and REITs, for example.

I wouldn’t rush out to buy commodities given the runup they’ve already had; investors have historically done a terrible job timing their purchases and sales of commodities-tracking investments. But diversified equity portfolios should include some real estate exposure, and REITs haven’t performed especially well year to date so the entry point doesn’t seem terrible.

The Social Security COLA, which was raised to 5.9% this year, is now lagging current inflation rates. What is the best way for advisors to help retirees to counteract the crunch they are taking to their Social Security benefits (especially if they already are collecting benefits)? 

Yes, there’s a small gap between the 2022 Social Security COLA and the rate of inflation right now, but I would counsel patience. If inflation continues to run high, Social Security benefits for 2023 will reflect those higher prices.

And because of the factors mentioned above — driving, homeownership, less spending on food, easing health care costs — retirees may not actually be bearing the full brunt of inflation.

What is your opinion on whether the COLA index should be changed from the Consumer Price Index for Urban Wage Earners and Clerical Workers to the CPI for the Elderly?

I had been in favor of the change, because CPI-E is a more accurate reflection of older adults’ spending than is CPI-W. Lately, though, I’ve been beginning to think it’s a bit of a wash.

While CPI-E had historically been running a bit higher than CPI-W, in part because of higher health care spending for older adults, more recently it has begun to give up ground, in part because health care costs have modulated during the past few years.

If Social Security were tied to CPI-E, that would mean that seniors would be getting less of a inflation “raise” this year than they are.

What lessons can advisors/clients learn from today’s volatility mixed with higher inflation and the impact on portfolios? Are there any products they should incorporate into portfolios now? 

The year 2022 has brought together a bad confluence of events: high equity valuations that have led to a stock sell-off; ultra-low yields, which left bonds vulnerable to rising interest rates; and higher inflation.

For retirees, it underscores the role of de-risking portfolios via a regular rebalancing program and shifting those proceeds to cash, especially for retirees who are in drawdown mode. I’ve been saying for the past few years that most retirees’ cash flows are hiding in plain sight in the form of appreciated equity assets in their portfolios.

I also believe the unpredictability of the current environment — could the economy continue to be strong or might we sink into a recession? — calls for an even healthier dose of humility than usual.

That argues for diversification and not casting one’s lot with a single scenario. You want equities and high-quality bonds, growth and value, international and domestic. This isn’t an environment for heroic gestures.

Do you believe that Congress will step up and make changes to Social Security, including making the appropriate funding, in the next couple of years? Why or why not?

It seems doubtful. Between geopolitical tensions and rising inflation, Congress has its hands full. So the notion that a deeply divided Congress would find the political will to enact meaningful change to a bedrock program at this juncture seems doubtful to me.