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Inflation, Gas Prices, and Retirement – Finger Financial Five #88

“How strange that the grass is all that remains standing after the storm,” said the Boy.

“Sometimes being soft is strong,” said the Rabbit. 

Inflation is a big topic for retirees and savers. Every week, my wife tells me how much more something costs at Costco or Target. 

The increase in cost can affect retirees on fixed incomes. It is much like swimming against a current — the stronger the current, the harder it is to get where you want to go. Inflation is that current and it is strong at the moment.  How well you navigate the situation depends upon the make-up of your income and the amount of flexibility you have within your retirement plan

To explain this point, let me share with you a story…

I have been able to swim for as long as I can remember. My dad always cautioned me when we came to Myrtle Beach to swim in the ocean. He warned of the undertow — a swift and dangerous outbound current that pushes you away from shore. 

He would advise against actually fighting the current and, instead, tread water and swim back as the current weakens.  

He also recommended swimming across the current.  In other words, if the current is carrying you out to sea, swim parallel to the shore until you’re out of the undertow, then swim toward shore. 

Here is a chart that shows how strong the inflation current is:

In both cases, you are further from the shore. The key is to remain calm as you carefully consider what moves might be appropriate. Sometimes, the best move is to do nothing — tread water. 

There are many ways to fight the current inflation…  

Stocks over time have been helpful in fighting inflation. Think surfing a wave to shore.

Social Security increases over time with a Cost of Living Adjustment or COLA that helps fight inflation. 

Some pensions go up with inflation.

Savings accounts and CDs can keep you afloat, but you still are getting further from shore. In other words, they typically lose to inflation, but they still serve a purpose … safety. Think life jacket.  

So why did I ask about the make-up of your income? 

The make-up of your current and future income, the amount of your investments and the nature of those investments all factor into how well you can navigate inflation. This is your sail that takes your back to shore (your goals).

Adjusting your sails as the inflation current or the tax winds change can put you in the best position to reach your goals.

So remember, stocks, bonds, and in some cases real estate, can be directional and carry you to your destination. 

Finger Financial Five Extra Credit: Lesson from dad…

I told my dad a store had a 50% off sale. He said if you don’t buy it, it’s 100% off. Lesson: reducing what it takes for you to live is like reducing the current that’s taking you away from shore.  

What is causing this inflation current??

Energy prices have been a major factor driving inflation higher this year. The strong economic recovery and the war in Ukraine have boosted the demand for energy at the very same time supplies of oil and natural gas have fallen. Gasoline prices, in particular, have become a symbol of the burden inflation places on consumers and where those prices go from here will affect consumer spending, Fed policy and stock market returns. 

What should investors know about energy prices as they position for the next phase of the market cycle?

The challenges in the energy market of the past six months only add to the storylines of the past few years. During the pandemic lockdown, the front-month oil contract fell into negative territory. This had never occurred before and was due to a collapse in demand worsened by a lack of oil storage capacity. A negative price meant that contract holders were so desperate to not take delivery of oil that they were willing to pay others to take their contracts.

Since then, the oil market has turned around completely as prices first recovered alongside the economy, then spiked this year following geopolitical events, then experienced a few bumps along the way due to growth concerns. Brent crude jumped to nearly $130/barrel immediately after Russia’s invasion of Ukraine. It has since settled in around $110/barrel, which is the same level as in March and still the highest oil price since 2014.

In this environment, there are at least three major developments for investors to follow. First, energy prices have been a major contributor to rising inflation. Last month’s Consumer Price Index report, for instance, showed energy prices rose 35% over the previous year and gasoline prices skyrocketed 49% and are now above $5 per gallon on average, a new record.

The chart above, which breaks down the components of gas prices, shows that the largest contributor is simply the jump in crude oil prices. Costs associated with refining, distribution, marketing, and taxes have contributed as well, but to a much smaller degree. The chart also highlights the strong relationship between gasoline and the Consumer Price Index.

For this reason, gasoline and oil are perhaps the most important indicators for the path of the economy. To combat higher energy prices, especially at the pump, the U.S. administration has released oil from the Strategic Petroleum Reserve, is negotiating with Saudi Arabia to increase their output, and has floated the idea of a gas tax holiday (although neither party supports this and it only amounts to 18.4 cents per gallon). 

I don’t agree with a gas subsidy for this reason: the Fed wants to slow down inflation. Therefore, they want people to spend less. All things being equal, higher prices automatically do this. Giving tax breaks on gas is like turning on the AC and leaving the door open.

This situation may seem odd given the U.S. is now the top oil producer in the world due to the U.S. Energy Renaissance of the past decade. However, not only has U.S. oil production not fully recovered, but most U.S. refiners require imported oil to make products like gasoline.

Second, this has unsurprisingly become a contentious political and policy issue since higher gas prices hurt consumer pocketbooks and reduce discretionary income, effectively functioning as a tax. For businesses, higher energy prices boost manufacturing and transportation costs, affecting all products and services.

The Fed has become especially sensitive to the impact of gas prices on headline inflation, even though their policy tools can’t directly fix the disruptions to supply. This has spurred the Fed to raise rates at the fastest pace since the early 1990s. Whether the Fed maintains this pace will be determined by consumer expectations on inflation which are largely driven by energy costs. Steadier oil prices over the past three months are a positive, but uncertain, sign of where inflation may go from here.

Third, the energy sector of the stock market has benefited from higher prices and is the only sector in the black this year, although its year-to-date gain has been cut to 29% from a peak of 65%. However, for those who are properly diversified, the energy sector accounts for less than 5% of the S&P 500’s market capitalization, even after all other sectors have fallen. The fact that the sector has made these gains emphasizes the importance of investing within and across markets.

The next several months will be challenging for investors as markets continue to adjust to high inflation. However, investors are always faced with potential problems whether it’s financial crises, trade wars, the pandemic, lofty valuations, rising interest rates, geopolitical conflicts or other challenges. Understanding the key issues while resisting the urge to overreact is still the best approach to achieving long-term financial success.

The bottom line? Energy is a key factor driving inflation. Oil prices have been more stable recently which could be a positive sign. Investors ought to stay disciplined as markets adjust to inflation.

Adjust your sails!  

Feel free to email me at [email protected] or click here to setup a phone appointment.  

Oh, by the way, the biggest obstacle for retirees isn’t money. It is finding purpose. 

On the lighter side, we went to Charleston, SC on Saturday for my wife’s birthday. We shopped and ate dinner at Fig (Food is Good) downtown. The gnocchi was incredible. 

We may have gotten a little further from shore, but I enjoyed the people in my boat.

Finger Financial Five – 5 points in 5 minutes or less – is to provide you with a weekly shot of useful financial information.  My intention is to share principles, so that you will have more clarity and peace, that help you make better financial decisions.

Investment advice offered through Stratos Wealth Advisors, LLC, a registered investment advisor; DBA Riverbend Wealth Management.

This content is developed from sources believed to be providing accurate information and provided by Riverbend Wealth Management. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. Stratos Wealth Partners and its affiliates do not provide tax, legal or accounting advice. This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should consult your own tax, legal and accounting advisors before engaging in any transaction.

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