inflation and interest rates on your retirement overview

Retirement Planning: The Impact of Inflation and Interest Rates

Retirement planning is so much more than putting your money into a 401(k). With so few people spending the time they need on sitting down and planning their retirement, each day brings a new challenge or concern to the table. We are facing unprecedented times when it comes to traditional retirement plans. Retirements are being robbed because of financial risks that cause retirees to run out of money before they run out of retirement. And one of the biggest challenges is planning for inflation and interest rates. Inflation refers to the increase in prices of goods and services over time, while interest rates are the cost of borrowing money or the return on lending money. These two factors are closely related, and they can have a significant impact on retirement planning.

Inflation and Retirement Planning

Inflation is a key factor that can affect retirement planning. As prices of goods and services rise over time, the value of money decreases. This means that the amount of money you save today may not be enough to cover your expenses in the future. For example, if you save $100,000 today and expect to retire in 30 years, assuming an inflation rate of 2%, the purchasing power of that $100,000 would be equivalent to approximately $54,000 in today’s dollars.

To account for inflation, it is important to adjust your retirement savings goals to ensure that you will have enough money to cover your expenses in the future. This means that you may need to save more money than you initially planned. One strategy to combat inflation is to invest in assets that tend to increase in value over time, such as stocks or real estate.

Interest Rates and Retirement Planning

Interest rates are another important factor to consider when planning for retirement. Higher interest rates generally mean that your savings will grow faster, while lower interest rates can make it more difficult to reach your retirement savings goals. For example, if you invest $10,000 today in a savings account with a 1% interest rate, in 30 years, your investment would grow to approximately $13,400. However, if the interest rate was 3%, your investment would grow to approximately $24,000.

In addition to savings accounts, interest rates can also impact other types of retirement investments, such as bonds or annuities. In a low interest rate environment, these investments may not provide enough return to keep up with inflation. Therefore, it is important to consider the current interest rate environment when selecting investments for your retirement portfolio.

The Relationship Between Inflation and Interest Rates

Inflation and interest rates are closely related, and changes in one can impact the other. As mentioned earlier, inflation tends to lead to higher interest rates. This is because lenders need to charge a higher interest rate to compensate for the loss of value of the money they are lending. Conversely, if inflation is low, interest rates may also be low, as lenders do not need to charge as much to compensate for inflation.

When planning for retirement, it is important to consider the relationship between inflation and interest rates. If you are investing in assets that are sensitive to interest rates, such as bonds, you may need to adjust your investment strategy if interest rates rise or fall. Additionally, you may need to adjust your retirement savings goals if inflation is higher than expected.

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Retirement Security & Behavioral Finance

Your mind is wired with cognitive biases that influence your decision making—something that does not make planning your retirement as you wish and need easy. Behavioral finance studies the impact cognitive functions, social, and emotional factors have on financial decision making. Understanding this can increase overall financial health and allow for a more secure and successful retirement.

Loss Aversion Understanding

Research shows that folks are more stressed by losing money than gaining it. This is call loss aversion. This can make investment management and retirement planning problematic. In order to achieve a risk-based retirement plan and obtain reducing those Top Ten Risks, having a basic plan is the best first step for a secure retirement. You need to know your options!

Know Yourself

Naturally, folks are risk averse—but even this instinct needs to be well-informed. Understanding your motivations and wants for retirement allows you to set goals. When brainstorming your retirement wants and goals, try different ways of phrasing them. Going with the one that feels more motivating is what you should chose.

Know How Your Money Can Buy You Happiness

Think of your retirement as a trade: time and money. You spend decades dedicated to working and retirement is now your time. While planning for retirement keep that in mind! And financially, think about what will bring you happiness. Traveling? Starting a new business after retirement? Downsizing your home and spending more time with family? Knowing how you wish to focus your money promote you to stay motivated and overcome cognitive biases as you focus.

Decisiveness is Key

Ironically, good decision-making skills comes in handy here. Understanding your cognitive biases and having your goals properly aligned means success will allow you to better make those decisions—even understanding your past decisions will help!

The basics for retirement decision making are comprehensive retirement risk understanding, risk-based testing and planning, and knowing strategic options to reduce the risks.

Be Friends with Your Future

Ever heard of present bias? This is our tendency to value the current moments more than the future ones. For example, you are more likely to spend money on something that will make you happy now than you are to invest or save it for your future self. Present bias is actually a major factor in why folks have a hard time saving and planning for retirement.

Visualize your retirement goals. Keeping in mind your future self not only will help with retirement planning, but it will help your overall well-being!

For more information on behavioral finance and how it will help your retirement and your clients’ retirement, listen to our episode “Turning Knowledge into Action” on the Retirement Risk Show.

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