Retirement accounts face greater risks today. That risk is inflation.
Rising inflation has moderated a bit in recent months. Yet it is still well above the 10-year historical average of about 1.88%.
The problem is that many retirement accounts were set up, funded, and invested at a time when inflation was low. That time has passed, but few retirement accounts have caught up to the current environment. As a result, the allocations within many of these accounts are not prepared for the possibility of structural inflation pressures that last for the long-term.
Put simply, it’s hard for investors to adapt when most of their working years were characterized by disinflationary pressures.
Consider that from about 1994 to 2020 durable goods prices fell, on average, a few percentage points each year. This happened because that period was an era of globalization as an enormous number of people in East Asia moved from the farm to the factory. As this labor entered the global economy, disinflationary forces took hold. However, today, globalization is coming to an end as the US continues to nearshore manufacturing and bring more supply chains home.
Additionally, labor force growth has slowed to slightly above zero. This is a result of the aging of the domestic employment base. Research from The Brookings Institution concluded that “participation has fallen substantially more among older adults, many of whom are homeowners who benefited from rising house prices.” As a result, we have a “domestic supply shock, when it comes to labor, which adds further pressure to this global supply shock,” according to former Senior Investment Executive at Bridgewater Associates, Bob Elliott.
He continues to explain that this dynamic could be setting us up for an era of inflation, “which is very different from the structural era of disinflation that basically all of us have known our entire lives.” This means that the financial setting of the last few decades will not be a very accurate compass for investors trying to build their retirement savings.
The question remains: what should investors do?
Elliot suggests that investors look at periods that had characteristics similar to those we’re seeing today, namely the 1960s and the 1970s. During those two decades gold increased by almost 400%.
This performance suggests that gold and other commodities could provide a powerful level of protection against the eroding effects of long-term inflation that cannot be tamed with Fed action alone. As discussed above, long-term, structural inflation is a likely result of major global factors like reduced globalization and a dramatic drop in labor force participation. These are factors that cannot be addressed with rate hikes. They are widespread and they are largely irreversible.
Traditional investments like stocks and bonds may still do well in the coming years but the risk for investors is that “well” might not be good enough. That’s why it’s time for investors, especially retirement savers, to seek the asset classes that performed well in eras that look more like today.
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