Retirement Income in a Down Market

Retirement Income in a Down Market

We all remember the Goldilocks story in which our main character stumbled upon the bears’ home and searched for the porridge, chair, and bed, which were “just right.” That is an appropriate metaphor for our current macroeconomic environment. The Fed especially is struggling to make its next interest rate move “just right.”

What Does The Bigger Picture Look Like?

The backdrop for the Fed’s concern about how to dial in just the right interest rate change can be seen in a couple of recent economic reports:

The most recent GDP report provided a solid headline: Real economic growth hit a 3% annual rate in the 2nd quarter. This was well ahead of the consensus, and represented a significant improvement from the first quarter’s 0.5% decline in real GDP. Swings of 3.5% over the course of one quarter like this are not normal, but they are also not unheard of. Some commentators are pushing this as evidence that the economy is roaring, while others are arguing it’s a nothing-burger. Political motivations are rampant on both sides; the reality is squarely in the middle. 

The Trump administration’s most recent budget bill (literally named the “One Big Beautiful Bill Act” or OBBA for short) has codified several economic growth-inducing policies. At the same time, the administration’s use of tariffs potentially hampers economic growth. Accordingly, we don’t believe the sharp uptick in economic growth in the 2nd quarter was evidence of a massive economic growth wave. Rather, it was a reflection of how various businesses have reacted to the administration’s handling of tariffs. 

When President Trump announced his intentions of slapping massive tariffs on various trading partners, US producers reacted by expediting their purchases of foreign-made products to get in under the wire. Since imports are technically included in GDP calculations as a subtraction from economic growth, Q1’s economic numbers were massively depressed.

In the 2nd quarter, as tariffs actually kicked in, US producers switched back to placing orders with domestic suppliers, thus inflating Q2 GDP calculations. The net result was a lot of economic statistical volatility, but a more modest net impact overall.

If we combine both the 1st and 2nd quarters, real GDP grew at a very modest 1.5% annual rate. This is well below the long-term trend of a 2% per year average of the last twenty-plus years. While we’re still growing economically, this is not the makings of a substantial boom at this time; the jury is still out.

Likewise, the jury has not yet spoken on whether we will have a recession in the near term. Conflicting indicators point us back to the Federal Reserve and the decisions it will make over the course of the back half of this year. Their actions in the next several months will likely determine whether modest growth continues, growth accelerates, or we slip into a mild recession.

In short, the Fed is following a Goldilocks path of trying to keep inflation low without cratering the economy. As many economists have noted, “a monetary policy tight enough to reduce inflation may also be tight enough to induce a recession.” The Fed needs to get this “just right.”

Inflation Fades From Center Stage

One of the other recent economic reports we referenced chronicled the Consumer Price Index for July. As expected, the CPI rose roughly 0.2% for the month, with the year-to-year (July to July) rate coming in at 2.7%. “Core” prices, which exclude food and energy, increased 0.3% in July, putting the twelve-month inflation rate at 3.1%. While both these measures (CPI and “core” CPI) are higher than the Fed’s 2% annual goal, focusing on the last several months provides a better sense of trajectory for the future. Over the last six months, which includes higher tariffs, prices have only increased at a 1.9% annualized rate, with core inflation hitting a very reasonable 2.4%.

We reference tariffs in the discussion of the last 6 months’ inflation data because there is a widespread misunderstanding of the role tariffs play in inflation. Many commentators across the spectrum assume that tariffs cause inflation. This couldn’t be further from the truth. Tariffs can have a significant negative impact on overall economic growth, but they cannot cause inflation.

The prices for tariffed products clearly increased. But that increase leaves less money for producers or consumers to spend on non-tariffed items. Inflation is an increase in the “overall price” level, not the price of some products. Inflation is caused by mismanagement of the money supply. As the Nobel laureate Milton Friedman proved decades ago in his seminal research on this topic, “inflation is always and everywhere a monetary phenomenon.”

In the immediate aftermath of the Covid lockdowns, the Fed expanded the country’s money supply at unprecedented levels. This did not immediately impact the inflation level because the lockdowns actually created an unprecedented demand for money. In other words, the demand for money and the supply of money both increased. The net effect was not inflationary. That started to change – and then changed dramatically – as we came out of the lockdowns, confidence returned, and the demand for money decreased. Fewer people felt the need to “keep money” in their bank accounts, and they started spending it. As this pivot in demand occurred, the money supply remained unchanged. This is when the inflationary effect of the Fed’s action kicked in. The supply remained high even as demand plummeted; inflation hit hard. The cumulative inflation rate since the Covid lockdowns stands at approximately 25% (2020 through 2025 to date).

In response, the Fed increased interest rates to tame inflation with 11 rate hikes in a two-year period, representing the most significant rate hikes since the 1980s. Arguably, the Fed was very late to the recognition of inflation’s strength, initially commenting that inflation appeared only “transitory” before abruptly about-facing with a public statement of concern about inflation’s impact. 

Clearly, progress has been made as evidenced in the CPI numbers discussed above – especially those of the last 6 months. Today, the concern is that the Fed may be late in recognizing the progress it’s made and, therefore, might keep rates too high for too long. This is the crux of the Goldilocks decision they have to make. In the months ahead, will they maintain current rates, decrease them slightly, or decrease them significantly? If they do decrease, how many rate cuts would this represent over what time period?

Chairman Powell is famous for highlighting different metrics at different times. This creates uncertainty in the market; everyone knows that interest rates affect the economy, if only because interest rates affect long-term decisions about capital investments in plant and equipment. At times, Powell has emphasized the CPI, at other times “core” CPI, and at other times still “super core,” only to return to commenting on regular CPI.

We believe the Fed will cut rates in its September meeting, but we long ago gave up on any claims that our crystal ball has superpowers. In the last Fed meeting, Chairman Powell convinced the board to keep interest rates unchanged, but not without significant defections. Fed minutes show two Fed governors dissenting from this decision in favor of reducing rates then. One needs to understand the normally collegial nature of the Federal Reserve Board Governors to understand the significance of this split. This is the first time dissent has been noted in the minutes since the early 1990s.

Other Economic Signals

Against this backdrop and uncertainty, we see other economic reports pointing toward slowness, with others pointing toward growth, perhaps even significant growth. Both the ISM Services report and the ISM Manufacturing report seem to indicate a slowing economy. Having said that, both these reports reflect sentiment as well as actual economic activity. On the other hand, for Q2, 81% of the S&P 500 companies have reported positive earnings per share (EPS) surprises (meaning better than expectations). This brings the annual earnings growth to 11.8%, an impressive number.

Where Will Goldilocks Sit?

What will the Fed decide to do? How will the market react? How will the market anticipate what the Fed will do?, etc. The list of questions, no matter how they are phrased, all point back to the Fed. To some extent, this is unfair since tariffs, if implemented at an extreme level, could easily derail the economy, but these seem unlikely at this time. 

We have previously noted that the tariff issue hinges on whether tariffs are a policy goal in their own right (bad for the economy) or merely negotiating tools to secure better trade deals worldwide (good for the economy). With 6 months under our belt, the evidence seems to point toward them simply being negotiation tools.

That puts the Fed front and center. One advantage the economy and markets have at this particular time is the calendar date. Powell’s term as head of the Fed ends in early 2026. As objective and independent as the Fed was established to be, it still remains a political institution subject to political considerations. That is not necessarily a bad thing; it keeps the Fed governors from becoming too imperious and believing that they can simply do as they wish. They keep an eye on the economy even as they keep an eye on their job.

If the Fed chooses wisely, we can all celebrate. If it stumbles in the months ahead, corrective action would be taken under the direction of a new Fed Chairman.

Should We Base Our Decisions On What Goldilocks Does?

Determining what to do with an investment portfolio is dependent on your timeframe. But that has always been the case, and herein lies a paradox.

If you fall into the first camp (short-term focus and need significant withdrawals), then you cannot afford to be substantially invested. If you’re going to need cash, then you’d better make sure you’ve got cash available. Stick to money market and short-term bond instruments to earn something without exposing yourself to volatility. 

If you fall into the latter camp (long-term focus with modest withdrawal needs), you need to have an appropriate balance of stocks, bonds, and money market instruments. You need to balance your desire for growth, your tolerance for risk, and your need for modest liquidity. 

Executive Summary

Goldilocks is back in the news, this time being played by the Federal Reserve Board. Economic indicators are mixed, with some pointing towards continued modest growth, others towards accelerated growth, and others still towards a slight recession. While tariffs have captured the attention of most commentators, tariffs thus far have had minimal long-term impact on the economy. The Fed’s interest rate moves over the next several months will do more to affect the economy’s direction and pace than almost any other economic factor at play right now. All eyes are on Goldilocks and whether she will get it “just right.”

Whenever the stock market takes a dive or seems to be stalled after a dive, the sharks come out, offering various retirement income solutions. These are almost always sales hype to sell an annuity. Here’s a handful of the Google ads we found:

  • 7 Strategies for More Retirement Income
  • How To “Crash Proof” Your Retirement
  • Guaranteed Retirement Income Strategies
  • Retirement Income Planning Tips
  • Retirement Income Decisions

Each of these leads to an annuity product; none really addresses the key issue – how to safely generate or maintain retirement income in a down market. We’ll even go further; in our professional opinion, each of these actually significantly hurts your chances of succeeding in retirement.

Don’t Let Fear Derail Your Retirement

Down markets create fear. That fear is a legitimate concern if your portfolio is not set up correctly. Too many retirees or soon-to-be-retirees have neglected their portfolios and are in danger of running out of money. But legitimate fear from one mistake (neglecting your portfolio) should not drive you to make the more harmful mistake of buying an annuity to generate “guaranteed retirement income.” Too often, this guaranteed income stream will be insufficient for your retirement and an absolute catastrophe for your family.

Annuities Are Silent Killers

An annuity is generally a contract between you and an insurance company. In exchange for your money (you buy an annuity), they promise to pay you a certain amount (“guaranteed”) for the rest of your life and/or some amount of years you negotiate with them.

There are different types of annuities – and for a better understanding of the details, check out our annuity guide here but most often your money will stay with the insurance company after you’ve passed away. During the retirement years, the guaranteed income rarely keeps up with inflation. Most people fall further and further behind, suffering a real deterioration in their living standards during what they hoped would be the golden years.

Retirement Income Properly Understood

Part of the problem here is that “retirement income” is a misleading term as it applies to your retirement. Income is an accounting and tax term. It applies to interest and dividends. What’s missing from the conversation is an appropriate discussion of total return. Total return is the amount you earn on your entire portfolio, including capital appreciation. And capital appreciation is critical to keeping up with inflation.

If you have a $1 million portfolio generating $50,000 in annual retirement cashflow, you better plan on having a $2 million portfolio that generates $100,000 in cashflow at the end of 24 years just to keep up with inflation in retirement. That seems like a lot of money, but it’s true. In 24 years, you’ll need to have $100,000 in order to buy the exact same stuff you can buy today with $50,000. The same is true for the principal balance. $1 million needs to double to keep up.

A Plan Is Absolutely Necessary

The very first thing – the most critical thing, really – is to develop a retirement and investment plan which lays out the necessary steps to meet your needs today and tomorrow. If you haven’t done this, or haven’t done it with someone who is 100% objective, your odds of success are very, very low.

How Do You Keep Up In A Down Market?

Let’s say you develop that retirement and investment plan, and then the market drops. How are you going to earn that critical necessary return during a down market? The answer to your future actually lies in the past.

We can look back to a couple of prolonged down markets to see what worked then.

  • 1986 to 1979 – stagflation and a volatile stock market. In these years, there were zero gains in the major stock market indexes.
  • 2000 to 2013 – bursting of the dot.com bubble. Stock values dropped from the bubble-highs and spent the next 13 years climbing back up to almost exactly where they started. There was no real appreciation during this period – simply a regaining of what was lost in the downturn.

How we’ve described these periods no doubt leads you to wonder what good could have come out of them or how anyone in retirement could have survived, let alone maintain their living standard. But with a thoughtful portfolio structure, they could have prospered during these tough times.

Investors during the stagflation period could have earned an average return of 5.2%/year. Investors during the post-bubble period could have earned an average return of 5.7%/yr. This may seem too good to be true, but a well-executed program of dollar cost averaging and reinvesting dividends during these periods would have generated these results. Even during periods when the market went nowhere, you can still come out ahead.

The Amazing Power Of Dollar-Cost Averaging

Dollar-cost averaging (DCA) is a process of periodically investing a fairly regular amount into a portfolio. The amount being reinvested can be deposits you’re making on a regular basis or simply taking dividends you’re earning and reinvesting them back into the portfolio. Too often, during retirement, retirees tell their stock broker to put their dividends into cash or money market. That’s the wrong approach when using dividend stocks for retirement.

Making those regular deposits or consistently reinvesting those dividends accomplishes two things:

  • It ensures that your investment holdings are not purchased at inflated prices
  • It ensures that some of them will be bought at dramatically reduced prices

These two benefits together provide the amazing positive return results discussed above. This may seem like a magic trick, but it’s actually a well-documented mathematical reality. You see, each regular deposit or each dividend reinvestment lets you buy more shares of stock when prices are low than you can when prices are high. If done long enough, you’ll have more shares that are purchased at low prices than you have shares purchased at high prices.

The lower-priced shares will generate significant gains when prices return to their original level. Let’s use an example to make sure you really understand it.

If you own a $100 share of stock, and that price falls to $50 in one year and then rises back to $100 in the second year, we can all agree that you have not gained anything on that particular share of stock. But if you purchase a share of that stock when it hit $50, that share will gain 100% when the price comes back to $100. Every time you buy a share at a depressed price, you are setting the stage for massive gains simply by allowing prices to return to their starting levels. Combine all of this together, and that’s how you would have earned 5.2% or 5.7% per year during some fairly long and otherwise disastrous time periods.

Strategies During The Retirement Years

This strategy can work during the retirement years even as you’re withdrawing from the portfolio to sustain your living standard. The key strategy during these years is to fine-tune your portfolio so you have the right combination of stocks AND bonds. The type of stocks and the type of bonds you own also determine how successful you’ll be. Even with all we’ve said above about the mathematical wonder of dollar-cost averaging, it is possible to do it wrong.

Once again, we return to the need for a well-conceived retirement and investment plan. We have to determine what you need for retirement, how those costs will grow with inflation, how much growth you need to keep up with inflation, and then what types of stocks and bonds to purchase. An analogy to medicine here is appropriate.

Work With a Fiduciary Advisor

Don’t try to practice medicine on yourself; you’ll never know enough to heal yourself. You need a doctor who has been trained to diagnose what you need and to prescribe the cure. The same holds true for your investment portfolio. You’ll never know enough to manage this successfully on your own. Trying to do that makes you compete against money managers who live, breathe, eat & sleep investment management. They will win; you will lose.

Instead, engage the services of an objective advisor. The best are those who have achieved a fiduciary status. That means they are morally and legally bound to only act in your best interest. At First Financial Consulting, we are proud of our 45+ year history of objectively helping clients, and we meet that critically important fiduciary standing.

Greg Welborn is a Principal at First Financial Consulting. He works with individuals and privately-owned businesses on financial planning issues including investment, retirement, and tax planning, among others.

Greg Welborn is a Principal at First Financial Consulting. He works with individuals and privately-owned businesses on financial planning issues including investment, retirement, and tax planning, among others.

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