the evils of inflation-real or boogeyman?

[rj.phila]

hi folks, im wondering if you knowledgeable folks might be able to weigh in on something:

-every time i have ever spoken to anyone at any of my banks, or financial representatives, or pretty much anyone who works at a financial institution, they have always tried to sell me on this line-

"putting your money in this fixed income product(savings account, CD, MMA) that has no risk to principal will essentially cause you to LOSE money in the long run due to inflation outpacing you. you should buy this mutual fund/bond fund/etc. that we sell."

i have never had the stomach for buying stock, and the inherent risk to principal(i know, the money market mutual fund is not guaranteed until last week) of my savings is something i've never been comfortable with. (im a HARDCORE saver/frugal person, early 30's and still working). every year, i earn some money on my savings, maybe 3% to 5.5%, pay taxes on it, but still come out ahead. inflation has yet to leave me "behind". but i'd like to get some advice from some folks who DONT have a vested interest in selling me on a product.

your thoughts? am i crazy and making a huge mistake? not? thanks alot for the info/knowledge.

[disneysteve]

Inflation is certainly real. Look at gas prices, or food prices, or plane tickets or many other things. I think I read that food prices were up 4% last year. If you savings earned 3% and you paid 25% tax on that, your actual return was 2.25%. If things cost 4% more this year, you "lost" 1.75% in buying power.

Of course, the S&P 500 lost a lot more than that, so this year, you would have been better off in the CD/MMA. Historically, though, you would do far better in the long run with the stocks.

[tripods68]

If you have a 401(K) and have not participated to the Plan, you should do invest. Long Term you should benefit while outpacing Inflation. There is no better time to come in and buy mutual funds more than ever.

[rj.phila]

thanks, guys. im self-employed, pay the max into my SEP-IRA each year.

obviously, i have been much better off this year being out of stocks. i understand that inflation, on paper, is outpacing my earnings.

i guess the more specific question would be this: as someone who is just plain risk averse, and has also historically lost PRINCIPAL on the only mutual fund they ever bought( started an IRA in 1999 for 1500 that is now worth 700), what would you suggest? do i really need to sink the time into knowing stocks better, and invest?

[disneysteve]

do i really need to sink the time into knowing stocks better, and invest?

For someone in their early 30s, or almost any age for that matter, I think stocks need to be a part of your portfolio. At your age, I was probably 85% stocks. Now at age 44, I'm about 75% stocks.

I think a well-diversified portfolio is the way to go, not hanging your whole plan on one fund. As you've seen, that can be a bad idea. One exception to that would be a target date fund where the fund is diversified across asset classes and automatically adjusts the allocation over time.

[maat55]

The supplies for my business have sky rocketed. Mostly due to petroleum based products. A slow down in commerce and dropping oil prices may keep inflation in check.

If the government tries to attack this meltdown with more fiat money, I think inflation will be high.

[boosami]

If you continue to invest on a regular basis, the dollar-averaging effect absorbs a lot of the losses due to market fluctuations. This is a strategy that has been used successfully for many, many years. It's simple--you just continue to regularly invest and don't make rash decisions like pulling all your money because of a downward trend. Odds are that the market will pull back up and then all those dirt cheap stocks you were buying will majorly increase in value. The more time you have ahead of you, the more you will recover and benefit from this.

There's also something to say for diversification--not only in the makeup of your mutual funds, but your holdings as a whole. Sure, you may lose some value over time in a savings account, but that's the price you pay for some added security of those funds.

I put enough in insured and liquid savings vehicles that I would need for large spending purchases and emergencies (like job loss, medical bills), and also put money in aggressive mutual funds for long term savings. For additional diversification, I have real estate which I will ultimately sell off for a great return.

[noppenbd]

thanks, guys. im self-employed, pay the max into my SEP-IRA each year.

obviously, i have been much better off this year being out of stocks. i understand that inflation, on paper, is outpacing my earnings.

i guess the more specific question would be this: as someone who is just plain risk averse, and has also historically lost PRINCIPAL on the only mutual fund they ever bought( started an IRA in 1999 for 1500 that is now worth 700), what would you suggest? do i really need to sink the time into knowing stocks better, and invest?

I think you should put a little time into understanding what you bought in 1999 and what caused it to lose so much value. Unfortunately it was probably just bad timing. 1999-2000 was the height of the market and 2001 and 2002 were very bad years from which the market had just started to recover until this year. If you were invested in tech funds or growth funds that were heavy into tech those funds are probably still well off their highs.

The lesson I would take is that you need to have a consistent steady plan that buys into mutual funds as they are going up and as they are going down. Take one of the risk-assessment tests on Fidelity, Vanguard, or T Rowe Price's web sites. If you use one of the savings calculators you will find that beating inflation by 1% or less is not going to let you retire comfortably. To do that you need to take risk, which means owning some amount of stock mutual funds. That amount is tempered by your risk tolerance. Two people the same age with the same exact financial situation may have opposite risk tolerances. The risk tolerant person might be 90% stocks but even the risk averse person should have 50-60% stocks (at least this is what the risk-assessment calculators will recommend). Once you have your allocation there are several ways to achieve that and you should post your specific allocation goal.