20 May Retired Cash

Is your money at work, or is it happily enjoying retirement?  Has the rate of return on your savings account and what the banks are offering on CDs got you down?  With interest rates so low on most short-term investments, money in the bank has ceased to be much more productive than money in the mattress.  This is what I call unemployed, or retired, cash.  At best, it’s on an extended vacation.

You know, cash is not like you and me.  It doesn’t age gracefully.  It ages deceitfully. Like us, with time, it too loses value and its ability to do what is expected of it.  But, it’s deterioration is invisible to the naked eye.  Place a dollar printed in 1980 next to one printed in 2014.  Look them over.  Can’t really tell the difference can you.   They both look like they will buy the same $1’s worth of groceries.  But, the dollar printed in 1980 is not as young as it looks.  Like the 2014 dollar, in its youth it bought $1 worth of groceries.  It’s purchasing power today (as measured by the Consumer Price Index) has declined to just 33 cents.

Suppose you had invested $100,000 in certificates of deposit upon your retirement in the year 2000 and used the interest to supplement your Social Security and pension (assuming you were fortunate enough to have a pension).  The value of those certificates of deposit in purchasing power would be only $72,000 today.  And the interest income they generate would buy only 72% of what it bought when you first retired.  You see what I mean by ‘retired cash’?

If, instead of buying certificates of deposit with your $100,000 upon retirement, you had invested in rental real estate or business entities, inflation would have raised the value of those assets. And, you would have raised rents on your real estate and the prices of the goods and services sold by your business entities.  Your net worth would have increased, and your income would have, too.   Using the same Consumer Price Index, and assuming your $100,000 had merely kept pace with inflation,  it would have grown to $138,000 today.

The difference between the return on ‘safe’ investments like insured savings accounts and CDs and ‘risky’ investments like real estate, stocks and bonds is called the ‘risk premium.’  It is what investors are paid for accepting volatility in the day-to-day valuations of their assets, and the possibility that they might actually lose money.  The greater the volatility and risk, the higher the premium investors are able to demand.

Now, if the deterioration in cash’s value over time were visible, we’d all be in a much better position to calibrate whether or not and how much risk we might be compelled to accept so as to not run out of income or principal during retirement.  But, because we cannot actually watch its decline without looking up the inflation rate and hauling out our calculators, too many of us send our cash into retirement – where risk of loss is replaced by certainty of loss.