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Purchasing Power Risk: How Equities Preserve Your Ability to Buy Ice Cream (and Other Things You Need)

The PFS staff, like most red-blooded Americans, are big fans of ice cream, particularly Woody’s Ice Cream, a staple of Fairfax City.  Woody’s Ice Cream is owned by Woody Lashley, who retired from the auto business in 1996 and opened his store in 1998. Given our affection for ice cream, we thought it appropriate to use this essential consumer product for a brief overview of why it is safer to invest a portion of your retirement savings in equities, rather than sticking only to the “conservative” alternatives of bonds, CDs, and money market investments. 

Assume that when Woody retired from the auto business, he had $1,000 in savings.  At that point, according to the U.S. Bureau of Labor Statistics, that would buy
Woody 375 half-gallons of ice cream.  However, the average price of ice cream increased from approximately $2.67 per half-gallon in January 1996 to $5.09 in b2ap3_thumbnail_ice-cream_20150415-141702_1.jpgJanuary 2015.  Therefore, if Woody had stashed half of his savings in cash under his mattress and invested half in U.S. bonds (represented by Barclays U.S. Aggregate Bond Index), he could only afford 374 half-gallons of ice cream as of the beginning of this year–a slight decline in his ability to buy ice cream.  In contrast, if he had invested his savings in a mix of cash (25 percent), U.S. bonds (25 percent), and equities (50 percent, represented by the S&P 500), he could afford 655 half-gallons of ice cream as of the end of last year–almost a 75% increase in his ability to buy ice cream!

The lesson is clear:  while the risks of investing in the equities market may grab more headlines, choosing the “safe” bet of only (or predominantly) investing in cash or bonds may not be so safe over the long-term.  You may feel some anxiety as market commentators dissect equity price fluctuations under a microscope, but bear in mind that inflation trudges on, eroding the purchasing power of your savings (i.e. reducing your ability to buy ice cream) if they are not invested in assets that will produce inflation-beating returns over the long term.

Will you be able to afford more or less ice cream when you retire? 

     
 

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