What investors can do to protect retirement savings

If you’re retired, you’re approaching retirement or you’re still several years out but are planning your retirement finances, high inflation might be keeping you up at night. How can you minimize its impact on your purchasing power now and in the future?

The best defence is diversification, according to Benjamin Felix and Cameron Passmore, portfolio managers at PWL Capital in Ottawa. On an episode of their investing podcast, Rational Reminder, Felix said that investors can decrease the risk of their entire portfolio having zero or negative real returns by holding more sources of expected return in their portfolio. That includes value stocks, domestic and international stocks, and fixed income, if it makes sense in the portfolio.

“The ultimate inflation hedge, I think, is diversification, but that’s not actually a hedge. It’s just a way to deal with it,” said Felix. He cited research about the characteristics of an inflation hedge.

• It will correlate positively with inflation, including responding to unexpected inflation.
• It won’t be too volatile.
• It will have a positive real expected return.

The problem, Felix said, is that such an asset doesn’t exist. Commodities are too volatile in the short-term. Gold, which is not positively correlated with inflation, is volatile and doesn’t have a positive real expected return. Inflation-protected bonds perfectly hedge against inflation, but only if your time horizon matches the duration of the bonds.

One possible, much-talked-about solution is to invest in a globally diversified portfolio with domestic and international stocks and bonds. During the 1966–1982 period of 0% real returns for U.S. stocks, Canadian and U.K. stock returns were positive and U.S. value stocks delivered a real annual return of 6.71%. Further to that, global stocks have been a great long-term inflation hedge, with a positive 5.2% real annual return going back to 1900.

Outside of that, retirees may have inflation-protected income from a workplace pension, Canada Pension Plan (CPP) payments and Old Age Security (OAS) payments. Investors can take advantage of the current high interest rates on savings deposits and GICs. They can also use equity income ETFs to generate high and tax-efficient monthly cashflows. And fixed-rate borrowers who locked in their rates before 2022 can enjoy a few more years of low interest rates and fixed payments.

Final thoughts

We’re experiencing global inflation that is keeping prices elevated for longer than expected. Investors saw losses in both stocks and bonds in 2022, thanks to rapidly rising interest rates deployed by central banks to cool inflation.

Going forward, investors could consider diversifying their portfolios globally with stocks and fixed income to reduce the risk of a negative or zero real rate of return.

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