Investing for a recession-proof, typical income retirement. Part 3: Unadvertised specials, getting ahead of the crowd, and universal capitalism
Winning, even for everyone
Introduction
Uncountable numbers of retirement planning articles promise to tell you how much investment assets you’ll need for your retirement. If there’s a single one that actually delivers on that promise, I haven’t found it. So I decided to write it myself. It turned out to be a longer article than I expected, so I split it into more readable chunks. This is Part 3.
Part 1: the median income lifetime investment goal
Part 2: options if you can’t meet the goal
Part 3: some ways to beat the goal
Part 4: tools to do your own planning
The original question from Part 1 was “How big does your retirement investment portfolio need to be in order to have an income that matches the median per capita income of a US resident? The answer: $14.2 million. Here’s where that number comes from. When combined with the median Social Security benefit of nearly $15,000, this amount gets you enough investment income to achieve the median U.S. per person income of $31,500, and provides enough growth to keep pace with inflation, and is as immune as possible to the fluctuations of gains and losses due to market fluctuations. It assumes, and these are big assumptions, that bond yields average 2.4%, inflation averages 2.0%, and investment management fees are 0.25%.
This is a large amount of money. It would put you close to the top 0.5% of Americans in net worth. Part 2 was concerned with what to do if you couldn’t accumulate that much money by the time you retired. Part 3 provides a more optimistic perspective, for steady retirement income, for a whole career approach, and for the national population as a whole.
The secret weapon for dealing with inflation without risk or fees
We’ve seen how investment yields are destroyed by inflation, fees, and taxes. What if you could avoid them? Why wouldn’t you put most, if not all of your funds into accounts with those properties? You would, if you knew about them, but investment advisors and stock market pundits aren’t motivated to talk about them. They don’t provide fees for advisors, and they don’t make news that attracts viewers to advertisers using the pundits’ shows and columns. They simply sit there, quietly providing income for their account holders.
These magic investments actually exist, in the form of inflation-indexed bonds issued by the US Treasury. Their yields are apparently low, but their income is exceptionally stable and as risk-free as investments can be. Many people see the higher yields and growth numbers for other investments, and they forget to correct for MIFT (return Minus Inflation Fees and Taxes) and the likelihood of significant losses from time to time, which make those apparently higher yields not so great at the end of the day . We’re trying to be smarter than many people.
They’re not the only inflation-indexed financial instruments, but they’re the only ones that you can acquire at your discretion while retaining the MIFT advantages. Social Security payments are indexed for inflation, but because Social Security is funded by mandated “payroll tax” contributions, you can only control your contribution and benefits by choosing a more or less well-paying job. I’ve seen a few discussions of inflation-protected annuities, but they are very rare, and typically have quite high management fees and low yields.
The simplest inflation-protected bonds are Series I Treasury bonds, which you can obtain through treasurydirect.gov without going through any broker or advisor, and thus without paying any management or brokerage fees. Treasury Inflation Protected Securities (TIPS) are more complicated to obtain. TIPS are issued via auctions, so their interest rate is set by market demand rather than directly by the government. Many of those bonds are currently selling for a price that gives a negative yield. Such is the price of safety; since they are backed by the US government, which prints its own money and will never be unable to redeem them at face value. They will default only if the United States itself is collapsing.
Financial houses such as BlackRock have taken on the task of organizing a portfolio of TIPS and working through the auction process for obtaining them to create easy-to-buy ETFs, with the very low management fees associated with index fund ETFs. Inflation-protected bond ETFs have yields above zero because of carryover from previous years when bond yields were higher. Because they hold bonds that last for ten or 30 years which have individually been acquired at shorter intervals over the lifetime of the fund, these funds provide a dividend yield that is a moving average of yields over a span of many years.
Because they’re issued by the government, income from I-bonds and TIPS is exempt from certain taxes. You may live in a state or city that has such exemptions. In Texas, where I live, we have no state income tax, so there’s no state tax for the dividends to be exempt from.
The catapult and the trade winds: two ways to get ahead of working and saving
In our typical example, we’ve assumed that your only income is from wages and from investments you’ve made with those wages. We’ve seen that under normal circumstances this will not grow enough to provide for your own retirement, even with a lifetime of frugal living.
So how about abnormal circumstances? What situations exist that could permit you to grow your wealth beyond what you can expect to earn by working hard and saving determinedly? In the 21st century, there seem to be two major strategies that lead to above average wealth: you can be lucky enough to have a benefactor or patron who will catapult you into a higher wealth category, or you can be a founder or CEO of a successful company, and ride the wave of that company’s growth into a stake of sustainable riches.
The benefactor is most likely to be a parent or grandparent who leaves an inheritance to children and grandchildren. In a stable, sustainable family economy, each generation would leave enough investments to its successor generation that they could continue to live a typical lifestyle, and this would continue indefinitely for generation after generation.
A stable, sustainable family economy is also likely to be one of long-lived members, so a simple inheritance from your parents is likely to occur when you yourself are no longer young, and your inheritance will not have the opportunity to acquire much additional compound growth before you’ll need to call on it for your retirement expenses. In order to get the inheritance to descendants when they are young enough to allow for significant compound growth, bequests need to incorporate some amount of generation-skipping, providing a launchpad of wealth for grandchildren to take long-term advantage of.
If you don’t have a benefactor and are intent on achieving enough wealth to retire comfortably, you’ll need a promotion from the engine room of the ship of capitalism, staffed by salaried and hourly wage employees, to the command deck, where officers are given a share of the profits from each voyage. If the command team is skilled at navigation and at bargaining for cargo, and the economic weather is favorable, individual voyages will be shorter and more profitable, and wealth will be generated more rapidly than by any amount of individual effort.
On the command level, executive officers make decisions that affect large numbers of lower level staff and large amounts of resources, and are compensated not according to their effort, but according to the impact of those decisions. In most situations, they are compensated disproportionately, with the compensation structure looking more like that of a tournament, where the winner takes home a prize whose value far exceeds the value of the prize awarded to any other contestant, and may equal the total of the prizes for all other contestants combined.
Rewarding the first much more than the successors also applies to new companies, where founders retain major portions of the company shares even as the company grows to billions of dollars in annual revenue. It is through a combination of CEO and founder compensation effects that many billionaires obtained their wealth. Forbes magazine’s list of the world’s wealthiest people has tracked this effect in recent years. In 2018, the most recent date for which they’ve published the statistic, Forbes found that two of three billionaires were self-made, while only ⅓ of the wealthiest were catapulted into that position by inheriting a large portion of their wealth.
Political conclusion: Making everyone part of the “owner class”
More than one in five Americans, 68.5 million of us, are sufficiently retired to be receiving payments from Social Security. Yet the Federal Reserve, who are tasked to manage interest rates and inflation by their enabling law, the Federal Reserve Act, puts their own convenience ahead of the welfare of those whose steady income depends on interest income when they allow interest rates to fall to parity with inflation or even below. Be that as it may, it will take a long time and many arguments by economists with more credentials than me to convince the Fed’s governing committee to change their policy to a target rate of inflation that is actually zero.
In recent years, the Federal Reserve has failed to meet its 2% inflation goal, suggesting that their economists are not as good at modeling the economy as they might like you to believe, and perhaps that the economy cannot be controlled strictly by monetary policy and interest rates, or even controlled at all. Economists suggest many reasons for low inflation, but one of the causes is likely to be stagnant wages, which allow companies to keep prices down while still maintaining good profit margins. With wages and prices stable, any growth in the economy ends up in the hands of the owners rather than the workers, and this leads to increasing disparities between the wealth of the most wealthy segments of the population and the less wealthy segments..Economist Thomas Piketty.has investigated this phenomenon in exhaustive detail in his book Capital in the Twenty-First Century. When wages are stagnant, your goal is to become an owner as rapidly as you can. That is, “If you can’t beat ’em, join ‘em.”
The competitive instincts that lead to disproportionate rewards for winners are deeply ingrained into human cultures, and any economic system that doesn’t explicitly and actively work against wealth inequality will end up with some people accumulating far more than the vast majority of individuals. France, with its national slogan of “liberté, égalité, fraternité” nevertheless has a capitalist economy, and has some of the richest people in the world, belying the equality that the slogan asserts.
When political analysts consider measures to moderate or mitigate the further concentration of wealth by the already wealthy, they almost invariably focus on reducing the assets of the wealthy, via progressive taxes and other means. Between 1940 and 1963 the highest income tax rate was always over 80%, reaching peaks of 94% in 1944 and 92% in 1952. Since 2014, the highest tax bracket has been near 40%.
Taxes on income don’t prevent the further accumulation of wealth, since creative charitable contributions and other methods of asset sheltering can reduce a person’s taxable income to near, or even below zero while still retaining control over vast amounts of wealth and providing for a lavish lifestyle. Before he became President and acquired the use of Air Force One, Donald Trump used a personal Boeing 757 jetliner that was not actually owned by him, but by a special-purpose subsidiary company that Trump is CEO of. And that company appears to pay no taxes.
Wealth that pays no taxes is parasitic on government services, and this is one of the reasons that Senator Elizabeth Warren, when she was running for the 2020 Democratic Party’s nomination for President, proposed an “Ultramillionaire tax” of 2% on wealth of $50 million or more. This kind of tax is politically feasible since the ultra-wealthy represent fewer than 100,000 voters, although they can provide substantial sums of campaign contributions and obtain outsized influence that way.
Progressive income taxes and wealth taxes slow the growth of the wealth of the rich, but they don’t address the lack of wealth of most people. Partial, tentative efforts to promote wealth for regular citizens include tax benefits for home ownership and tax-advantaged retirement and college investment plans, but these leave out many people who don’t own their own home and those who don’t have a job that includes a retirement plan.
In order to bring every citizen into the owner class, we need to institute “universal capitalism” for everyone rather than capitalism just for the wealthy. The easiest way to do this that I know is via a universal wealth fund, an “All Americans Wealth Fund”, and by providing for universal profit sharing and stock grants.
The All Americans Wealth Fund would be very much like the sovereign wealth funds that already exist in many countries, and even in the US in Alaska’s Permanent Fund. It can be funded in many ways, but I’m partial to changing the tax code to allow companies to pay their taxes in equity rather than in cash, and to then reallocate these contributions to equal shares of every company. This is a natural way to make every American an owner of each company, rather than just those people who have retirement funds and pension funds, and the few people who have their own investment funds. Elizabeth Warren’s 2% wealth tax could be directed into the AAWF as well.
Because it is owned by all Americans, the trustees who manage the AAWF would have a duty to vote the shares of the fund in the interests of all Americans, not just a tiny minority of wealthy people. .
Of course, having title to some property is not really “ownership” without control, and one of those controls is the ability to choose to sell the property. In order to provide for individual control over each citizen’s share of the AAWF, each citizen would be given an individual investment account that they can use to manage their individual shares. And because American companies make a profit, as they return profits to shareholders in the form of dividends, the AAWF returns shares of those dividends to each citizen through the individual investment account, which by default is reinvested in the AAWF again. There would be a basic share of the AAWF that could not be sold, preventing people from giving up their birthright shares of American wealth, but the dividend portion of each person’s account could be disposed of as they wish, reinvested elsewhere, or reinvested in the AAWF.
The AAWF has similarities to the concept of “baby bonds”, that would be issued to each person at birth, but it leverages the greater growth potential of equity investment rather than the lesser growth of bonds. There’s of course nothing preventing the US Treasury from contributing other taxes or Treasury Bonds and Notes the AAWF for it to reinvest broadly in American companies. The political advantage of the AAWF is that it leverages capitalism in its natural form rather than implementing some socialist or socially justified wealth distribution or wealth dilution.
An AAWF makes everyone a capitalist from an early age, rather than making capital management an activity only for the wealthy, or only for people considering their income in retirement many years into the future. While it doesn’t reverse existing wealth inequalities, it takes a major step towards slowing the further concentration of wealth, preventing the less wealthy from falling farther behind, providing the proverbial tide that lifts all boats. The AAWF’s individual wealth accounts then provide a platform for further developments of universal capitalism that can actually begin to reverse wealth inequality.
Disclosure
When I began writing this series of essays, I was following the advice of the financial advisers for my 401(k) retirement accounts, with a conventional mix of stocks and bonds. Since then, I have begun following my own advice, transitioning those accounts to an income-generating mix of a TIPS ETF and an “investment grade” bond ETF.
