newyorklady
Recycles dryer sheets
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i understand the first part of what you said, please explain the latter.
inflation hedges
- Thread starter newyorklady
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cute fuzzy bunny
Give me a museum and I'll fill it. (Picasso) Give me a forum ...
Well, its one of those funny bits in discussions like the mortgage/no mortgage debate. People know what answer they want, so they seek out facts that help support their preordained decision, but they dont always apply the facts evenly.
If I take out a mortgage, over time the value of the mortgage dollars declines as inflation works on it. Assuming a fixed 3% rate of inflation (as an example), the principal of the loan the bank lent you becomes devalued by 3% per year. After 10-15 years into a 30 year mortgage, the money simply isnt worth as much, but its the banks money. In the meanwhile IF YOU'RE AN ACCUMULATOR and not a retiree, your paycheck is becoming MORE valuable due to cost of living raises, salary range increases, etc. For a straight worker bee paying off the mortgage, this becomes more and more attractive as time goes on.
On the flip side, money an accumulator DOESNT put towards the mortgage and invests or money an early retiree has already invested in a portfolio and is drawing from...also devalues by the same rate of inflation. This is the battle an early retiree has to fight...make money, pay the tax man, offset inflation, offset personal inflation/spending/lifestyle changes, and still pull out enough cash after all that to pay the bills.
So inflation does devalue the banks money, but it also devalues your holdings.
This works great for the traditional person in their 20's or 30's, not a lot invested, no big intentions of retiring early or achieving financial independence. Bite off a huge mortgage at a sub 6% rate, let inflation devalue that money while you continue to be an up and comer making more and more money every year at your job...fast forward 10-15 years and that huge honking mortgage that used to be 50% of your paycheck is now a measly 25%, the house is worth more, and you've got higher spendable income and higher net worth.
Really a big difference when you look at someone in their 50's or older, who may have reached their peak earnings, who are building an investment portfolio, planning for FI/ER. Inflation affects both ends of it for them.
One interesting thing is to note current prime mortgage rates and subtract the CPI from them. Then look at TIPS coupon and add the current CPI to them.
Hmmm...some efficiency there...
So a mortgage is a fine NEUTRAL inflation hedge in that it will take money from peter and pay paul, but you arent going to make/save anything on it.
If I take out a mortgage, over time the value of the mortgage dollars declines as inflation works on it. Assuming a fixed 3% rate of inflation (as an example), the principal of the loan the bank lent you becomes devalued by 3% per year. After 10-15 years into a 30 year mortgage, the money simply isnt worth as much, but its the banks money. In the meanwhile IF YOU'RE AN ACCUMULATOR and not a retiree, your paycheck is becoming MORE valuable due to cost of living raises, salary range increases, etc. For a straight worker bee paying off the mortgage, this becomes more and more attractive as time goes on.
On the flip side, money an accumulator DOESNT put towards the mortgage and invests or money an early retiree has already invested in a portfolio and is drawing from...also devalues by the same rate of inflation. This is the battle an early retiree has to fight...make money, pay the tax man, offset inflation, offset personal inflation/spending/lifestyle changes, and still pull out enough cash after all that to pay the bills.
So inflation does devalue the banks money, but it also devalues your holdings.
This works great for the traditional person in their 20's or 30's, not a lot invested, no big intentions of retiring early or achieving financial independence. Bite off a huge mortgage at a sub 6% rate, let inflation devalue that money while you continue to be an up and comer making more and more money every year at your job...fast forward 10-15 years and that huge honking mortgage that used to be 50% of your paycheck is now a measly 25%, the house is worth more, and you've got higher spendable income and higher net worth.
Really a big difference when you look at someone in their 50's or older, who may have reached their peak earnings, who are building an investment portfolio, planning for FI/ER. Inflation affects both ends of it for them.
One interesting thing is to note current prime mortgage rates and subtract the CPI from them. Then look at TIPS coupon and add the current CPI to them.
Hmmm...some efficiency there...
So a mortgage is a fine NEUTRAL inflation hedge in that it will take money from peter and pay paul, but you arent going to make/save anything on it.
Gearhead Jim
Full time employment: Posting here.
I'm surprised to see so little mention of TIPS. In a hyperinflation situation the US govt might be unable to pay, but short of that they should be good. Easy to buy, easy to sell (especially if inflation heats up), not much expertise required. Not as the major part of your portfolio, but still a part. Or am I missing something?
cute fuzzy bunny
Give me a museum and I'll fill it. (Picasso) Give me a forum ...
Nope, they're fine if you like the "real" rate of return they provide, and dont mind paying the taxes on the inflation adjustment every year even though you dont get the inflation adjustment until the bond matures.
In a high inflationary period, you could be paying a bunch of taxes and the bonds wont be providing you the income to do it with...
In a high inflationary period, you could be paying a bunch of taxes and the bonds wont be providing you the income to do it with...
Gearhead Jim said:
If you read the first post - it says that the OP is looking for stuff other than TIPS and Iflation indexed bonds. Anyway that was wha I was writing about - We all agree TIPS and Inflation indexed bonds have a role in our bond portion of the portfolio but we are looking into other asset classes which act as an hedge.
-h
p.s: also as CFB keeps pointing out the govgt has real motivation to fudge the numbers when calculating CPI
Gearhead Jim
Full time employment: Posting here.
Personally, I don't like a real rate of less than 5%, but that's just me... 
If I buy TIPS, they'll be in an IRA that (hopefully) I don't need to draw on for a long time.
Any other advantages/disadvantages that I might have missed?
If I buy TIPS, they'll be in an IRA that (hopefully) I don't need to draw on for a long time.
Any other advantages/disadvantages that I might have missed?
Gearhead Jim
Full time employment: Posting here.
You're right, short term memory loss at work for me.lswswein said:
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