If the dollar collapses, what the hell happens to my retirement account?
October 1, 2007 2:54 PM Subscribe
Looking for good articles, links, etc. that discuss (rationally, not all panicky-like) strategies for managing one's 401(k) in light of recent shifts in the market and (perhaps more importantly) the declining dollar. So far, everything I've found seems geared toward investors managing their stock portfolios rather than workers managing their retirement accounts.
Part II: if anyone would care to comment (I know that You Are Not A [or My] Financial Planner), here's my particular situation (hence why the question is anonymous; it's that weird American neurosis about discussing income rearing its ugly head).
Me: late 30s, unmarried/no kids (but long-term SO and I are discussing both of those factors changing over the next couple of years). I expect to retire in 25-28 years. My employer also offers a pension on top of our retirement plan, in which I am fully vested (but don’t know how much I want to even bank on it, considering the horror stories that sometimes crop up regarding disappearing pension funds). I don't plan on relying on Social Security for anything; I figure if it still exists when I retire, that will be gravy.
Income: $53,000/year, with 4-5% raises annually. I put aside 10% of pretax income into my retirement account, with a company match of 4% of my income. I plan to increase my investment by 1 or 2% annually till I reach my contribution limit. (Other relevant financial facts: I rent my home, own my car outright, and have about $7000 in savings; my only debt is about $3000 in CC debt--at 0% till next summer--which I am on track to pay off once and for all in less than a year.)
Currently have just under $27,000 in account (I didn't really start getting serious about contributing to plan and managing it till a few years ago). My asset allocation is:
- 25% international equity
- 30% U.S. small/mid equity
- 30% U.S. large equity
- 15% "guaranteed income"
None of those funds has significant holdings in real estate, so they haven’t (so far) lost much value in the recent market gyrations at all (in fact, while some of my individual funds are down, my overall return is--for now, at least--still quite good). Beyond that, I understand that the market has its cycles anyway, and has historically always gained in value over the long run. (And since I’m not retiring for at least 25 years, the long run is what I am concerned about.)
BUT! I am very concerned about long-term dollar devaluation. Does it make any sense to shift more money into international funds (which are doing extremely well for me), even though those are normally considered the most risky? That is, if the dollar keeps declining for years to come (which I think it might), doesn't that actually mean that international funds become less risky?
Also, is there anything (besides hysteria) to the rising hubbub in the blogosphere of "Buy gold! Buy gold!"? And what to make of the analysis that I read somewhere (wish I could find it now) that the long-term historical gains in the stock market may begin to reverse once the baby-boomers begin retiring (i.e., once they start removing their funds out of the market in quantities greater than the current workforce will be putting their funds into the market)?
Sorry if some of these questions seem rudimentary. As I said, I only started paying attention to these things in the past few years. Thanks!
Part II: if anyone would care to comment (I know that You Are Not A [or My] Financial Planner), here's my particular situation (hence why the question is anonymous; it's that weird American neurosis about discussing income rearing its ugly head).
Me: late 30s, unmarried/no kids (but long-term SO and I are discussing both of those factors changing over the next couple of years). I expect to retire in 25-28 years. My employer also offers a pension on top of our retirement plan, in which I am fully vested (but don’t know how much I want to even bank on it, considering the horror stories that sometimes crop up regarding disappearing pension funds). I don't plan on relying on Social Security for anything; I figure if it still exists when I retire, that will be gravy.
Income: $53,000/year, with 4-5% raises annually. I put aside 10% of pretax income into my retirement account, with a company match of 4% of my income. I plan to increase my investment by 1 or 2% annually till I reach my contribution limit. (Other relevant financial facts: I rent my home, own my car outright, and have about $7000 in savings; my only debt is about $3000 in CC debt--at 0% till next summer--which I am on track to pay off once and for all in less than a year.)
Currently have just under $27,000 in account (I didn't really start getting serious about contributing to plan and managing it till a few years ago). My asset allocation is:
- 25% international equity
- 30% U.S. small/mid equity
- 30% U.S. large equity
- 15% "guaranteed income"
None of those funds has significant holdings in real estate, so they haven’t (so far) lost much value in the recent market gyrations at all (in fact, while some of my individual funds are down, my overall return is--for now, at least--still quite good). Beyond that, I understand that the market has its cycles anyway, and has historically always gained in value over the long run. (And since I’m not retiring for at least 25 years, the long run is what I am concerned about.)
BUT! I am very concerned about long-term dollar devaluation. Does it make any sense to shift more money into international funds (which are doing extremely well for me), even though those are normally considered the most risky? That is, if the dollar keeps declining for years to come (which I think it might), doesn't that actually mean that international funds become less risky?
Also, is there anything (besides hysteria) to the rising hubbub in the blogosphere of "Buy gold! Buy gold!"? And what to make of the analysis that I read somewhere (wish I could find it now) that the long-term historical gains in the stock market may begin to reverse once the baby-boomers begin retiring (i.e., once they start removing their funds out of the market in quantities greater than the current workforce will be putting their funds into the market)?
Sorry if some of these questions seem rudimentary. As I said, I only started paying attention to these things in the past few years. Thanks!
When you look at foreign stocks, take a look at both emerging markets for the high risk/high return attributes, but also look at the "developed markets", like Europe and some of Asia. There are mutual funds out there that do both, and I know my 401k has both.
posted by cschneid at 4:14 PM on October 1, 2007
posted by cschneid at 4:14 PM on October 1, 2007
That is, if the dollar keeps declining for years to come (which I think it might), doesn't that actually mean that international funds become less risky?
I just read what I wrote below and it's kind of a disjointed ramble, but I post it in the hope that it'll be useful.
If you believe that the dollar is losing value, all else being equal, holding dollar-denominated foreign equities helps you hedge that currency risk.
All else isn't equal, though. If you start to look at how much capital investment around the world consists of U.S. dollars, you can see that anything that devalues the dollar actually reduces the amount of net foreign investment into most other countries, damaging their economies.
Equity in companies operating in other countries also poses risks that U.S. investors don't always think of. Dollar inflation is one thing, but historically the dollar has been pretty stable relative to most other countries' currencies. Just because the dollar is inflating doesn't mean that some other country's currency won't start inflating more (especially if that country's economy is on the skids because their exports to the US have just dropped 50% in 2 years.)
In addition, there are various other risks in other countries - revolutions, nationalizations, mandated restructurings (for example, I just dumped some Chinese telecom stock when it became apparent to me that the Chinese government was planning to restructure their country's entire telecom industry with unpredictable results).
Look at Myanmar - aren't you glad you don't have more invested there than what your international fund currently does? (Do you even know how much business the international companies you own via your fund were planning to do in Myanmar this quarter?)
I bet your international fund has a lot invested in China. Do you really believe that you can predict the future course of the renminbi as well as you can predict the dollar? Are you even aware that the Chinese government restricts the prices at which the renminbi is allowed to trade - influencing the value of the dollar when it does so? Did you know that the Chinese government has asked its citizens to sell stock they own in the Shanghai exchange because, according to the Chinese finance minister, many companies are ludicrously overvalued?
Frankly I find all these things too much to think about. So let's talk about diversification, which is supposed to be the antidote to not knowing exactly how things are going to play out.
You have a very diversified portfolio. You have fixed income, foreign and domestic equities, large, mid and small caps. If you diversify this much, essentially buying everything on the map, your philosophy is to accept that most of your money will not be in the best place for it to appreciate. You are guaranteeing yourself, in essence, to make mistakes about asset allocation; but you are also guaranteeing yourself a piece of whatever's hot at any given time. In return you are hoping that over the long term your asset allocation will be more right than wrong, ensuring a decent overall return. The entire benefit of diversification is that you are supposed to be able to do well on balance without having to forecast anything.
If that's your philosophy, you shouldn't monkey around trying to forecast *anything*. If you truly believe you can make good forecasts, why diversify? Instead, figure out how to leverage your forecast and place your bet. Diversification is for people who don't want to make forecasts, spend time keeping up with the economic news, worry about whether they're right or wrong, or place bets on things they think are going to happen. For example, I own a little bit of a whole-market fund, a Russell 5000 index. The reason I do is that every time I see good news on any publically traded U.S. stock I can think to myself, "I own some of that good news." This is tremendously liberating. That's why to diversify.
For what it's worth, if I had to bet between your international fund going up 50% in the next two years and going down 50% in the next two years, I'd bet on the decline. But don't listen to me. Don't listen to anything. Choose your asset allocation now, keep pouring money in, and never think about it again for the next 28 years; otherwise you're losing the only benefit of doing it.
posted by ikkyu2 at 4:36 PM on October 1, 2007
I just read what I wrote below and it's kind of a disjointed ramble, but I post it in the hope that it'll be useful.
If you believe that the dollar is losing value, all else being equal, holding dollar-denominated foreign equities helps you hedge that currency risk.
All else isn't equal, though. If you start to look at how much capital investment around the world consists of U.S. dollars, you can see that anything that devalues the dollar actually reduces the amount of net foreign investment into most other countries, damaging their economies.
Equity in companies operating in other countries also poses risks that U.S. investors don't always think of. Dollar inflation is one thing, but historically the dollar has been pretty stable relative to most other countries' currencies. Just because the dollar is inflating doesn't mean that some other country's currency won't start inflating more (especially if that country's economy is on the skids because their exports to the US have just dropped 50% in 2 years.)
In addition, there are various other risks in other countries - revolutions, nationalizations, mandated restructurings (for example, I just dumped some Chinese telecom stock when it became apparent to me that the Chinese government was planning to restructure their country's entire telecom industry with unpredictable results).
Look at Myanmar - aren't you glad you don't have more invested there than what your international fund currently does? (Do you even know how much business the international companies you own via your fund were planning to do in Myanmar this quarter?)
I bet your international fund has a lot invested in China. Do you really believe that you can predict the future course of the renminbi as well as you can predict the dollar? Are you even aware that the Chinese government restricts the prices at which the renminbi is allowed to trade - influencing the value of the dollar when it does so? Did you know that the Chinese government has asked its citizens to sell stock they own in the Shanghai exchange because, according to the Chinese finance minister, many companies are ludicrously overvalued?
Frankly I find all these things too much to think about. So let's talk about diversification, which is supposed to be the antidote to not knowing exactly how things are going to play out.
You have a very diversified portfolio. You have fixed income, foreign and domestic equities, large, mid and small caps. If you diversify this much, essentially buying everything on the map, your philosophy is to accept that most of your money will not be in the best place for it to appreciate. You are guaranteeing yourself, in essence, to make mistakes about asset allocation; but you are also guaranteeing yourself a piece of whatever's hot at any given time. In return you are hoping that over the long term your asset allocation will be more right than wrong, ensuring a decent overall return. The entire benefit of diversification is that you are supposed to be able to do well on balance without having to forecast anything.
If that's your philosophy, you shouldn't monkey around trying to forecast *anything*. If you truly believe you can make good forecasts, why diversify? Instead, figure out how to leverage your forecast and place your bet. Diversification is for people who don't want to make forecasts, spend time keeping up with the economic news, worry about whether they're right or wrong, or place bets on things they think are going to happen. For example, I own a little bit of a whole-market fund, a Russell 5000 index. The reason I do is that every time I see good news on any publically traded U.S. stock I can think to myself, "I own some of that good news." This is tremendously liberating. That's why to diversify.
For what it's worth, if I had to bet between your international fund going up 50% in the next two years and going down 50% in the next two years, I'd bet on the decline. But don't listen to me. Don't listen to anything. Choose your asset allocation now, keep pouring money in, and never think about it again for the next 28 years; otherwise you're losing the only benefit of doing it.
posted by ikkyu2 at 4:36 PM on October 1, 2007
You should look more towards achieving the greatest possible diversification coupled with the lowest amount of feeds (e.g., index funds) in order to achieve your goals. You should not be concerned with differences in rates of return as that is the purview of speculation, not of a retirement account.
Predicting currency fluctuations are hard for someone whose had experience, and then only in short-term situations (Soros' breaking of the Bank of England took place over days, not decades). Our ability to predict events several years out are notoriously bad, let alone over a 25 year period.
Of course there is a possibility diversification is not an inherently stable proposition (even if it is most certainly not the most profitable one). If entire portfolios are tanked by diversification, look on the bright side, most likely there'd be public assistance. Better to be in the food line with everyone else than bankrupt from something like subprime lending.
posted by geoff. at 4:40 PM on October 1, 2007
Predicting currency fluctuations are hard for someone whose had experience, and then only in short-term situations (Soros' breaking of the Bank of England took place over days, not decades). Our ability to predict events several years out are notoriously bad, let alone over a 25 year period.
Of course there is a possibility diversification is not an inherently stable proposition (even if it is most certainly not the most profitable one). If entire portfolios are tanked by diversification, look on the bright side, most likely there'd be public assistance. Better to be in the food line with everyone else than bankrupt from something like subprime lending.
posted by geoff. at 4:40 PM on October 1, 2007
Check your fund fees. If you're not in low-cost index funds, you could wind up losing a lot of money to fees over the long term.
If you have actively managed funds, check your funds' holdings regularly to make that they are really allocating their money as they advertise. Some "stock funds" have managers that try to second-guess the market and move into cash at random times. Some international funds do currency hedging, which means that they can fail to benefit from a falling dollar.
Your non-retirement account is seriously underfunded. Right now, if you lose your job and can't find another, or if you become unable to work because of health problems, you won't survive for very long. I wouldn't think about retirement savings until I had at least 6 months of expenses in the bank. If you're thinking about having children or buying a house, you should increase that amount even more.
Dollar devaluation is much less of a risk than inflation. In the inflation of the late 70s, the stock market didn't keep up. Have a look at TIPS funds.
If your employer offers an option for you to receive a lump sum now instead of a pension, take advantage of that.
Asset allocation involves making sure your portfolio contains assets in categories that are uncorrelated. Globalization of both economies and capital markets means that your portfolio may not be as diversified as past hstory would indicate. The main thing you're missing is real estate, which over the long term has been a better inflation hedge than stocks or gold. Think about buying a house in the next few years.
Don't overreact to current market turmoil; it's a good way to lose money over the long term. Historically, the most effective strategy has been to automatically rebalance your portfolio once a year to bring it back into line with your target asset allocation. So if the dollar falls (and your international stock funds go up as a result), then at the end of the year you sell some and move it into the US stock funds to bring the international fund back to your 25% target. It's counterintuitive, but it's a useful discipline that forces you to sell high and buy low. It's also a lot easier than spending the next 25 years constantly trying to second-guess the dollar's direction.
These two books provide a good introduction to the concepts of managing a retirement portfolio, although they are notably lacking in information about currency risk:
The Intelligent Asset Allocator
10 Steps to a Perfect Retirement Portfolio
posted by fuzz at 4:58 PM on October 1, 2007 [1 favorite]
If you have actively managed funds, check your funds' holdings regularly to make that they are really allocating their money as they advertise. Some "stock funds" have managers that try to second-guess the market and move into cash at random times. Some international funds do currency hedging, which means that they can fail to benefit from a falling dollar.
Your non-retirement account is seriously underfunded. Right now, if you lose your job and can't find another, or if you become unable to work because of health problems, you won't survive for very long. I wouldn't think about retirement savings until I had at least 6 months of expenses in the bank. If you're thinking about having children or buying a house, you should increase that amount even more.
Dollar devaluation is much less of a risk than inflation. In the inflation of the late 70s, the stock market didn't keep up. Have a look at TIPS funds.
If your employer offers an option for you to receive a lump sum now instead of a pension, take advantage of that.
Asset allocation involves making sure your portfolio contains assets in categories that are uncorrelated. Globalization of both economies and capital markets means that your portfolio may not be as diversified as past hstory would indicate. The main thing you're missing is real estate, which over the long term has been a better inflation hedge than stocks or gold. Think about buying a house in the next few years.
Don't overreact to current market turmoil; it's a good way to lose money over the long term. Historically, the most effective strategy has been to automatically rebalance your portfolio once a year to bring it back into line with your target asset allocation. So if the dollar falls (and your international stock funds go up as a result), then at the end of the year you sell some and move it into the US stock funds to bring the international fund back to your 25% target. It's counterintuitive, but it's a useful discipline that forces you to sell high and buy low. It's also a lot easier than spending the next 25 years constantly trying to second-guess the dollar's direction.
These two books provide a good introduction to the concepts of managing a retirement portfolio, although they are notably lacking in information about currency risk:
The Intelligent Asset Allocator
10 Steps to a Perfect Retirement Portfolio
posted by fuzz at 4:58 PM on October 1, 2007 [1 favorite]
It's your retirement account. Don't worry about short-term fluctuations. Hell - don't even check the value more than once a year. You'll never get it right.
Unless you have good reasons to think that the US economy is going into some kind of long term decline or hyperinflation, you'll be fine.
posted by TrashyRambo at 7:48 PM on October 2, 2007
Unless you have good reasons to think that the US economy is going into some kind of long term decline or hyperinflation, you'll be fine.
posted by TrashyRambo at 7:48 PM on October 2, 2007
This thread is closed to new comments.
That sounds obvious, but the key point is that if you own 1% of a company that, let's say, sells apples, it doesn't particularly matter what the dollar does. At the end of the day, they're going to sell apples for $X, and as an investor you'll get 1% of the profit from that sale one way or another. Since the price of apples will go up with inflation, in an efficient market, the price of the shares in that company will rise commensurately. That analysis doesn't work if a significant portion of a company's value is derived from huge piles of cash, but a responsibly-managed company shouldn't have that.
I agree that over the next 40 years we're likely to see more devaluation of the US$ and wouldn't shy away from moving some contributions to international funds, but I don't think buying gold is a good idea. The theory that retiring baby boomers will cause a drop in value of the stock market is predicated on the notion that most baby boomers even have a reasonable stake in the stock market, which I don't think is true. Many, many people have a large majority of their net worth in their house, and the average retirement account in the US is pitifully small.
posted by 0xFCAF at 3:18 PM on October 1, 2007