Chickens and eggs
“I can’t figure out how you do it,” said the young chicken farmer to his older and more prosperous neighbor. “I buy a hundred hens and before you know it, chicken prices drop and I have to sell of them at a loss just to pay my bills. And by the time I can afford to buy again, prices are sky-high!”
“Chicken prices can be pretty volatile all right,” answered the old farmer.
“So how do you manage to keep making more money every year in the chicken business?” the young farmer begged. “What’s your secret?”
“I’m not in the chicken business,” the old farmer replied with smile. “I sell the eggs.”
Hold that thought for a moment while I review the major points of my last blog post:
- Given current estimates of life expectancy, we’re going to have to assume that you are going to be living in retirement for a very long time.
- The things you buy are going to get more expensive. If inflation averages just 3% annually going forward, it will take $2.44 in the 30th year of your retirement to buy what $1.00 bought in the first year. That means unless your income more than doubles over that time, you’ll be eating into your principal at some point. That strategy doesn’t typically end well.
- Retirement planning is therefore an income To solve it we need investments that pay you a regular income that rises over time, at least as fast as what it costs you to live.
Retirees looking for income naturally turn first to fixed-income investments, such as CDs or bonds. But by definition, income that is fixed doesn’t increase over time. Trying to cover rising expenses with a fixed income probably isn’t going to cut it for long.
Stock dividends, on the other hand, have risen consistently for decades. In the 75 years since World War II (1946-2020), dividends on the S&P 500 stock index increased in 66 years, or about 88% of the time. Meanwhile, the cost of living – as measured by the Consumer Price Index – went up about 14-fold, while dividends increased 90-fold. (Source: Robert Shiller, Yale University)
So as a long-term producer of income that rises faster than inflation, equities have historically fit the bill. But aren’t stocks risky, especially for investors in retirement?
If day-to-day volatility and uncertainty are how you define risk, then equities would certainly be considered riskier than bonds over short time periods. But if your definition includes the possibility of your purchasing power eroding over the rest of your life – as I discussed in my last post – then you might reach the opposite conclusion, just as Wharton Professor Jeremy Siegel did in his 1994 classic Stocks for the Long Run:
“Although it might appear to be riskier to hold stocks than bonds, precisely the opposite is true: the safest long-term investment for the preservation of purchasing power has clearly been stocks, not bonds.”
Warren Buffett said essentially the same thing in his 2014 letter to shareholders:
“The unconventional, but inescapable, conclusion to be drawn from the past fifty years is that it has been far safer to invest in a diversified collection of American businesses than to invest in securities – Treasuries, for example – whose values have been tied to American currency.”
During your working years it’s all about making your money grow, but in retirement it’s all about making money last. Spending dividends that have historically increased faster than the cost of living over time is clearly a strategy for many investors to consider, especially in retirement, while bonds and other fixed-income investments might be a better solution for shorter-term spending needs. As I’m fond of reminding our clients, stocks are no place for your spending money.
The old farmer was right. If your hens lay enough eggs, and those eggs increase in number most years, chicken prices don’t seem to matter as much.
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, nor is it a recommendation. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any opinions are those of The Mike Brown Financial Group and not necessarily those of Raymond James. Expressions of opinion are as of this date and are subject to change without notice. There is no guarantee that the statements, opinions, or forecasts provided herein will prove to be correct. Investing involves risk, and you may incur a profit or loss regardless of strategy selected. Past performance does not guarantee future results. Future investment performance cannot be guaranteed; investment yields will fluctuate with market conditions. The S&P 500 is an unmanaged index of 500 widely-held stocks that is generally considered representative of the U.S. stock market.