Green Retirement Blog

The Federal Reserve on March 18, 2008, lowered a key interest rate by a dramatic 3/4 percent, the Dow responded by rising over 400 points. Great news for stock market investors. Bad news for retirees whose investments are largely in bonds, treasuries, and money market accounts.

Making matters worse for the retired, and those about to retire, inflation is on the rise. 2007 saw the largest increase in inflation in 17 years - up 4.1 percent. So, at the same time that retiree income is dropping, the cost of living for the retired, is going up.

Keep reading to find out how to protect your retirement in a recession.

Most economists, and a majority of the public 74%, believe that the U.S. economy is already in a recession. Martin Feldstein, Harvard economist and president of the National Bureau of Economic Research, the organization that officially declares recessions recently said, “I believe the U.S. economy is now in recession. The situation is bad, it’s getting worse and the risks are that the situation could be very bad.”

What is going on? And how can you recession proof your retirement?

Explaining the Fed

In normal economic conditions, when inflation is rising and the economy is growing too rapidly, the Fed increases interest rates to cool down the economy. A retiree would see their income increase, from investments in bonds, treasuries, and money market accounts, sheltering them from rising costs. However, even though inflation is rising, the Federal Reserve has been aggressively lowering interest rates. The reason? We are not living in normal economic conditions.

The Fed is attempting to keep our economy, and the global economy, from a complete collapse. A global economic meltdown not seen since the Great Depression 75 years ago. By lowering interest rates, the Federal Reserve reduces the cost of borrowing, and hopes to encourage more lending. Credit and the availability of credit, is the life-blood of the economy, the Fed is responding to a credit freeze. The recent rate cuts by the Federal Reserve are a desperate move, that do not address the underlying problems in the economy, and are temporary in nature. They may have a short-term positive impact on the stock market, lower interest rates usually translate into higher stock prices, but in the long run will cause higher inflation.

Retirement Options in a “New” Recession

Retirement incomes are dropping, while the cost of living is increasing, a double squeeze for retirees. Low interest rates, declining stock values, and a collapsing housing market. What is a retiree, or a person about to retire do, in the face of a severe recession?

Asset Preservation
Inflation Avoidance
Higher Yield Investments
Reduce Consumption

In this “New” recession your objectives should be to; hold on to what you already have, avoid paying more, and safely increase your income.

Asset Preservation

Stop the bleeding. Your assets are your net worth. If your assets decline, your net worth, your wealth diminishes. Your retirement income is derived from assets, when your assets decline, the income you can derive from your assets declines as well. Examine your assets. Which of your assets are prone to a decline in a recession?

Even though the on-going drop in interest rates, may leave you with less income, you will not lose asset value in bond, money market, or cash investments, insured by the FDIC or NCUSIF. However, stocks and housing values have been, and are likely to continue losing their asset values in this new recession. Depending on your situation, consider adjusting your asset allocation away from asset classes that could lose value, into asset classes that can’t lose value. Asset preservation, not growth, is the first priority.

Inflation Avoidance

Inflation, the rise in the cost of goods and services, is increasing. The effect of inflation on retirement is dramatic. A retiree on a fixed income may see their income remain the same, while inflation causes their expenses to rise, leaving them with less real income. If your money market account is earning 2.5% and inflation is 4%, you are in a negative cash flow situation, and may have to reduce your principal in order to cover the difference. A person planning their retirement will have less money to save for retirement.

You need to examine your Personal Price Index (PPI). The government uses the Consumer Price Index (CPI), to measure the rise in prices, for the overall economy. Your Personal Price Index, measures the rise in prices, for your personal expenses. They may be very different. For instance, I do not own a car, so the rise in prices for gasoline do not effect me as much, as someone who owns a car and commutes to work. My PPI is lower than the CPI. You need to find ways to lower your PPI.

Generally, inflation has been felt most in fuel, food, and health care. You can lower your PPI, your personal rate of inflation, by finding less costly alternatives. For instance, although you may not be able to live without a car as I do, you may be able to find a gas station that charges 5 cents less per gallon of gas. Instead of paying a premium price, for brand name Ibuprofen, switch to a generic brand. Buy your non-perishable food items in bulk, reducing the price you pay, per unit. By reducing the price you pay, for the same items, you have reduced your personal inflation.

Higher Yield Investments

If you are retired, and your income is derived from bonds, CD’s, money market accounts, treasuries, etc., the Federal Reserve has reduced your income. It’s time to start rate shopping. A little rate shopping could double your income. For example, you have a 1 year Certificate of Deposit with Bank A that is about to rollover at 2%, Bank B is offering a promotional 1 year CD at 4%, switching your FDIC insured CD from one bank to another has just doubled your income - your income has increased by 100%!

If you have money in stocks, you can increase your income, by investing in dividend paying blue chip stocks. The Dogs of the Dow, the ten highest yielding stocks of the 30 Dow Jones Industrials stocks, are yielding over 4%. What this means is that if you own these ten stocks, the dividends paid to you for each share you own of these ten stocks, on average is equal to a 4% rate of return. The companies pay a cash dividend, on a quarterly basis, on each share to shareholders. So for instance, if you bought one share of AT&T today on March 19, 2008 at $36.05, the company is paying a quarterly dividend of $1.60 per share, the income you recieve is equivalent to a 4.5% rate of return.

If you have investments in stock as part of your asset allocation, you can increase your retirement income, by investing in high yielding dividend paying stocks.

Reduce Consumption

Psst! Want to increase your income by 10% this year? Reduce your spending by 10% this year. If your real income is dropping due to lower interest rates, or higher inflation, and higher yield investments and inflation avoidance are not enough to make up the difference - you may have no choice but to reduce your consumption. In order to avoid eating into your net worth, or if you are not yet retired, to be able to continue saving for retirement.

Having a budget that tracks your expenses, will show you where and by how much, you can reduce your consumption. Our free retirement software makes it easy to adjust your budget and spending.

Recession Proof Retirement

Interest rates rise and fall, stock markets go up and down, recessions come and go. The keys to recession proofing your retirement are; preserve your assets, avoid inflation, safely increase your income, and if needed reduce your consumption. By following these steps, you can minimize or eliminate, the impact of a recession on your retirement.

Learn more about Green Retirement Planning - and how it can save you hundreds of thousands of dollars, allow you to retire early, and help save the planet!