Retirees in America have never been more prosperous, but one financial goblin still haunts them: inflation. Common wisdom holds that retirees depend on fixed income from bonds and pensions, leaving them almost defenseless against hikes in the cost of living.
That explains many seniors groups’ testy response to Federal Reserve Chairman Alan Greenspan’s suggestion in January that the consumer price index, the measure used to figure Social Security’s annual cost-of-living increases, be revised downward for technical reasons.
“This really works out to be a back-door attempt to reduce cost-of-living adjustments,” charges Kimberly Schuld, legislative analyst for the Seniors Coalition.
But retirees are not at inflation’s mercy as much as some might think. In fact, in many ways seniors are better insulated from rising consumer prices than are other age groups.
Incomes in households headed by someone age 65 or older rose 6.7 percent a year over the 19 years through 1993, compared with 6.1 percent a year for inflation. Over the same period, the average household overall saw a 6.3 percent annual increase.
What about those allegedly vulnerable fixed incomes? A myth. “A lot of retirement income is indexed to inflation, like Social Security,” points out Michael Hurd, an economics professor at the State University of New York-Stony Brook.
Investments also tend to rise with the cost of living. For example, when inflation rises, so do yields on short-term bonds and CDs, allowing holders to reinvest their income and term principal at higher rates.
And stocks are excellent long-run inflation hedges. Since 1966, for example, Standard & Poor’s 500-stock index has risen at an average of 6 percentage points a year above the rate of inflation.
Retirees’ least inflation-hedged source of income is corporate pensions, but even they may ratchet upward over time. “Private pensions don’t go up at the same rate as inflation, but they do tend to increase,” says Robert Clark, a professor of economics and business at North Carolina State.
Seniors’ spending habits also shield them somewhat. Because their homes are often paid for and their children educated, they shell out far less for such fast-rising expenses as housing and college tuition. In fact, retirees spend less than the general population in every category tracked by the U.S. Bureau of Labor Statistics except medical care.
To be sure, medical costs have been clipping along at a faster pace than the overall inflation rate. But the growth in health-care costs may be exaggerated by technical shortcomings in the way data is collected for the CPI (which is why Greenspan suggested that the index be revised).
For instance, a study by the Congressional Budget Office reports that the CPI often fails to capture health-care innovations such as the use of more efficient drugs, and doesn’t adequately reflect the boom in less expensive generic drugs.
Of course, even if inflation isn’t quite the menace you may have thought, you can’t ignore it. But financial planners say that you can protect yourself if you keep 30 to 35 percent of your money in blue-chip stocks or stock mutual funds.
Accordingly, mutual fund experts and Wall Street analysts were canvassed for picks in three conservative equity categories that hold special inflation-busting promise right now.
– Defensive growth stocks. Now that the economy finally shows signs of slowing, the momentum in the stock market figures to shift to defensive growth companies. These often tend to be consumer-oriented firms that can continue to boost profits even in a lukewarm economy.
One such stalwart is Avon (ticker symbol: AVP; New York Stock Exchange; current yield: 3.6 percent). J.P. Morgan analyst Heather Hay figures that the stock of the cosmetics company could hit $65 by the end of this year, for a 20 percent return.
Mutual fund investors with a taste for defensive growth stocks should consider Clipper Fund (no load; minimum $5,000; 800-776-5033), which has returned an average of 10.9 percent annually over the past three years. As of March 1995, the fund held 35 percent of its portfolio in consumer products and 52 percent in financial services.
– Companies that raise dividends. One way to keep ahead of inflation is to buy stocks of companies that regularly boost their dividend. Such firms tend to have low debt, steady growth and a record of reasonable, if unglamorous, price appreciation to go with their dividends.
One such company is $830 million Safety-Kleen (SK; NYSE; 2.2 percent), which has raised its dividend an average of 15 percent a year over the past 10 years. Prudential Securities analyst Vishnu Swarup predicts earnings growth of 15 percent a year over the next three to five years and expects the stock to hit $19 a share by the end of the year, for a 17 percent return.
In mutual funds, Morningstar’s Jeff Kelley recommends Franklin Managed Rising Dividend (4.5 percent load; $100 minimum; 800-342-5236), up 2.1 percent annually for the past three years. No-load investors should consider T. Rowe Price Dividend Growth ($2,500 minimum; 800-638-5660), up 12.3 percent since its inception in December 1992.
– Equity real estate investment trusts. Because landlords can raise rents to keep pace with inflation, well-located real estate properties can be terrific inflation hedges.
Salomon Bros.’ Jonathan Litt recommends Equity Residential Properties Trust (EQR; NYSE; yield: 7.6 percent), a Chicago-based REIT with apartments nationwide. “It’s having tremendous growth, with rents increasing 6.5 percent vs. the 4.2 percent industry average,” he says. Litt expects the stock to hit $32 this year, a 24 percent total return.
Fund investors can make their move into REITs through a real estate specialty fund, such as Fidelity Real Estate (no load; minimum $2,500; 800-544-8888), up an average of 8.7 percent a year for the past three years.
