Recent years have been stressful for many investors who are looking for stable income with a hedge against inflation. First, we’ve had more than a decade of historically low interest rates that have severely hampered investors’ ability to secure acceptable levels of current income from the conservative assets they typically rely on. Then, there was the COVID pandemic that started in 2020, which sent markets plunging, accompanied by the Fed’s dramatic easing program, which guaranteed that interest rates would remain in the basement. After a dramatic recovery and ascent to new highs, the markets are sinking again because of spiking inflation and the geopolitical uncertainties caused by the Russian invasion of Ukraine.
All this means that many investors focused on maintaining a steady flow of retirement income while also staying ahead of inflation are caught in a double bind: market volatility due to an uncertain inflation outlook is worrisome, and current interest rates, though slightly higher lately, are still historically low, reducing the current income available from the usual sources favored by retirees.
Fortunately, there is a way for those in the retirement glidepath to hedge the future value of their assets against inflation and still maintain a source of current income from secure, fixed-income securities. Target date funds, such as Dimensional Fund Advisors’ Target Date Retirement Income Fund (TDIF) aim to balance an inflation hedge with protection against falling interest rates.
The income-focused approach of such funds has two distinguishing ingredients. The first is a moderate exposure to equities in retirement to help mitigate market risk while hedging against the long-term erosion in asset value caused by inflation. The second is an allocation to bonds, designed to protect against the risks of rising inflation and falling interest rates. By maintaining a carefully controlled exposure to equities (about 25%, in the case of TDIF) and simultaneously concentrating on bonds with longer maturity dates, TDIF works to reduce portfolio volatility due to swings in the stock market while capturing increases in bond returns when interest rates rise, as they have been doing since late in 2021.
Since March 2020, the results of this approach have been encouraging. Cumulative returns have risen from a low of around -10%, at the outset of the pandemic, to a current level of around 18%, though returns have fallen from their high point of around 27%, achieved in the latter part of 2021.
SOURCE: Dimensional Fund Advisors. Past results are no guarantee of future performance; reported returns are net of all advisory fees and assume reinvestment of all dividends and other earnings.
Retirement investors have an obvious need for current income. But, especially with Americans living longer and longer in retirement, they also need to protect their assets from the long-term ravages of inflation. By adopting a combined approach like that of TDIF, they may be able to accomplish both long-term maintenance of purchasing power and a steady flow of income from conservative, fixed-income sources. To learn if this “blended” approach is right for you, talk to a professional, fiduciary financial advisor.
At Trilogy Financial Planing, the best interests of our clients come first. For our thriving retirees, that means that we work to balance their need for current income with their need to maintain enough growth in their portfolios to keep pace with inflation. Our goal is to position our clients for long-term financial success, no matter what uncertainties the economy and the financial markets may present.
Stay Diversified, Stay YOUR Course!