Page 16 - 12 October 2012

INFLATION
Handling inflation on fixed incomes.
There is one major problem with fixed income producing assets—as prices rise and the cost of living increases, the cash flow fails to keep up.
Billy Peterson, CFP ® Peterson Wealth Services, Inc. 877-470-4002 www.petersonwealthservices.com
by Billy Peterson
Irecently turned 40 (I know, I’m getting old) and I received one of those statistic sheets describing what was going on during the year of my birth. This one
actually detailed world events for the year I turned 16, which happened to be 1988. Ronald Reagan
was President (the good ol’ days), George H.W.
Bush was V.P., the Dodgers won the World Series with some help from the famous home run by Kirk Gibson, Merganser won the All American Futurity, and perhaps most notably, a gallon of gas cost $0.91. Several common consumer items were listed under the heading “Cost of Living,” such as new home, new automobile, loaf of bread, and movie ticket, and each had a price comparison for 1988 versus today. Those comparisons were so alarming that I decided to write about this concept of inflation here in Speedhorse.
Purchasing power is simply the number of goods/ services that can be purchased with a unit of cur- rency. It is an obvious fact that we have greater pur- chasing power of goods priced at 1988 levels than we do today. Let me try to explain why this is important to think about and plan for—especially now.
Many people live on a fixed income, that is, they receive a “fixed” or specific amount of money each month or year. Some people have pensions that are fixed with no cost of living adjustment; CD’s and bonds are types of “fixed income” investments—i.e. the payments do not change. There is one major prob- lem with fixed income producing assets—as prices rise and the cost of living increases, the cash flow fails to keep up. A horse trainer has to raise day rates to offset escalating costs for hay, grain and bedding. The horse hauler has to raise rates to offset increases in fuel costs. And on and on.
Now, what if a person “fixed” his rates and couldn’t raise them to cover these inflationary pres- sures? He could soon be out of business or bankrupt because no matter how many “units” he produced or trained or hauled or shod, he would lose incremen- tally on each one. With that in mind, think about your investments. Are they “fixed” or alternatively, do a good portion of them have the ability to increase in terms of income growth or overall value?
With the unprecedented amount of government debt and huge supply of newly printed US Dollars, it is becoming extremely important to consider your purchasing power. Inflation will be a major headline at some point in the near future and I am taking several precautions now to prepare for that. Please
take note: keeping all of your assets in the bank at current rates is not a solution and could be a way to lose purchasing power.
Depending on your situation, assets that have per- formed well in inflationary times should be considered and possibly added to your holdings while assets that perform poorly should be potentially reduced or pared back. Commodity or hard asset funds may be a good choice during inflationary periods. ‘High Dividend’ paying companies are also worth considering. Bonds should be examined carefully; consider shortening maturities on individual bonds. When interest rates begin to rise, the price or value of bonds goes down. If interest rates rise by only 1%, the value of a 30-year bond may decrease by 30% according to Morningstar.com.
Ask your advisor to review your fixed income holdings and ask for a shock analysis on your indi- vidual bonds. Shock analysis is simply an evaluation of each bond with various changes in interest rates.
If you feel as I do, that interest rates are more likely
to rise in the future than fall, then it is essential to assess your bond investments before this happens. Traditionally bonds have been thought of as very low- risk investments. We may be heading into an environ- ment where investors actually lose value on their bond holdings, and the longer the maturity of the bond, the steeper the decline of the bond price. Rates and prices move opposite of each other. If you don’t have an advisor or your advisor doesn’t provide shock analysis, feel free to give me a call, I’m here to help.
The information contained in this report does not purport to be a complete description of the securities, markets, or developments referred to in this material. Any opinions are those of Peterson Wealth Services and not necessarily those of RJFS or Raymond James. Expressions of opinion are as of this date and are subject to change without notice. Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not consti- tute a recommendation. Investments mentioned may not be suitable
for all investors. Prior to making an investment decision, please consult with your financial advisor about your individual situation. Investing involves risk and investors may incur a profit or a loss. Dividends are not guaranteed and must be authorized by the company’s board of directors. Commodities are generally considered speculative because of the significant potential for investment loss. Commodities are volatile investments and should only form a small part of a diversified portfolio. There may be sharp price fluctuations even during periods when prices overall are rising. Past performance may not be indicative of future results. The above information and content are for informational purposes only and do not constitute financial advice or investment recommenda- tions. Speedhorse Magazine makes no endorsements and bears no liability for your use of the information provided in this column. Always consult
a suitably qualified financial professional and/or tax professional on any specific problem, issue or investment opportunity.
14 SPEEDHORSE, October 12, 2012
FINANCIAL FORUM