Tag Archives: investments

Rates Won’t Skyrocket, So Ignore the Cassandra Chorus

My Comments: The last time interest rates started moving upward in a long term up trend was 1946. This lasted until 1981. Then they started moving down again.

Now, 36 years later, they have once again started upward. The central bank, known as the FED, started moving them back up about a year ago. Granted, the increases are tiny, but I believe it’s the start of an long, upward trend.

If you expect to live another 20 – 30 years, the financial landscape you’re used to is going to be very different. Rising interest rates are going to influence the value of your retirement accounts and other funds, the money you will use to sustain your standard of living going forward.

Just thinking about it could give you a headache…

By Scott Minerd, Chairman of Investments and Global CIO, Guggenheim Partners – July 17, 2017

When markets suddenly change short-term trends or direction, prognostication abounds to explain the most recent gyrations. Often, those who missed the move leading up to the sudden change by sticking to an earlier erroneous call will suddenly issue statements to vindicate the veracity of their earlier predictions. Others, looking to justify the conventional wisdom, will seize an opportunity as proof that the masses were right and the conventional wisdom, whether empirically true or not, still holds.

Such has been the events of recent days.

With the sudden rise of rates around the world, the pundits present the recent selloff as proof that long rates are bound to skyrocket as a result of any number of factors including reduction of the Federal Reserve’s (Fed) balance sheet, tapering of quantitative easing by foreign central banks, lurking inflation and growth, fiscal stimulus from Washington, D.C., and so on.

In moments like these, I think it is wise to step back and grasp the big picture. The Fed is on course to continue raising rates. If it does not, it is only due to weakening growth or inflation. Either way, case history tells us that the yield curve will continue to flatten.

As for ‎skyrocketing long rates, that seems unlikely during the current economic cycle. Virtually every business cycle ends with an inverted yield curve. If the yield on the 10-year Treasury note were to ‎rise to 3 percent, that would imply an overnight rate at 3 percent or higher. Using a number of metrics, an overnight rate of 3 percent would be so restrictive as to induce a recession.

Even the Fed, which has notoriously forecast rates higher than the market delivers, sees the longer term “terminal” rate (the apex of the policy interest rate during the business cycle) at 3 percent. Given the structural debt load on corporate balance sheets, a 3 percent short-term rate would ultimately prove unsustainable. With a cap on short-term rates around 3 percent, the likelihood that long-term rates could be sustained above 3 percent for any period of time is low.

Then again, there is a fairly good argument that the terminal short-term rate may be lower than 3 percent. Deflationary headwinds continue to restrain price increases. With declining energy and commodity prices, supply gluts in automobiles, competitive restraints on retail merchandise such as groceries and apparel, and a growing inventory of new apartments weighing on owner-equivalent rents, these headwinds are unlikely to dissipate anytime soon. Since inflation is tamed when real rates rise enough to choke off economic expansion, the lower the level of inflation, the lower is the nominal rate necessary to restrain it.

If that is the case, then the terminal rate is likely to be closer to 2 percent.

Only time will tell but that scenario argues for less policy tightening by the Fed as further rate increases are likely to slow the economy and inflation more than expected.

There is also the issue of valuation. Many routinely argue that bonds and stocks are overvalued yet the empirical evidence is sketchy.

As for interest rates, the last era of financial repression between the 1930s and 1950s resulted in long-term rates remaining below 3 percent for more than 20 years. The argument that 10-year yields need to be close to nominal gross domestic product (GDP) growth rates is equally unsound as, aside from the era of opportunistic disinflation from 1980 into early in the new millennium, 10-year yields on balance were below nominal growth rates for most of the past century.

Finally, the downtrend in long-term rates that began in the early 1980s is firmly intact. ‎To break that 35-year trend, the 10-year note would need to yield more than 3 percent for some period of time. Even if we did break that downtrend, history shows that rates will tend to move in a sideways consolidation for a number of years, often retesting the lows more than once.

The simple truth is that, while rates may trend higher in the near term, the risk is that we have not reached the point where the macro economy can sustain persistently higher rates. If anything, political, military, and market uncertainties would more likely lead to another sudden decline in rates rather than a massive spike upward.

Investors would be wise to ignore the growing chorus of Cassandra cries and look through the noise to the fundamentals. There are many things to be concerned about in the world but skyrocketing rates is not likely among them.

Social Security “Facts” Or Myths

My Comments: It’s clear from the questions I get that people starting the transition to ‘retirement’ are easily confused by Social Security. They know it’s there; they’ve been paying into it for years. But there are enough variables to paralyze you if you let them.

Todd Campbell \ Jun 26, 2017

There’s a lot of misinformation out there about Social Security that could lead people to believe things about this valuable program that simply aren’t true. Can you spot fact from fiction? Here are seven statements about the program that don’t pass muster.

1. Members of Congress don’t pay into Social Security

This isn’t true anymore. Beginning in 1984, all the members of Congress (and the president and vice president too) pay into the Social Security system. Prior to 1984, most federal government workers were covered by an entirely different program, called the Civil Service Retirement System (CSRS). Therefore, the only federal employees who aren’t paying into Social Security are those who were employed prior to 1984 and who didn’t switch to Social Security from CSRS.

2. Life expectancy was less than 65 when Social Security was enacted

Yes, higher infant mortality rates meant life expectancy from birth was less than 65, but the majority of people who reached adulthood and were working and paying into the system lived to 65 and beyond. In fact, those who made it to age 65 could expect to live an additional 13 years.

3. Social Security numbers include a code indicating a person’s race

Nope. That’s not true. At one point, though, the numbers did show what region of the country a person lived in at the time they filed for their number. Today, however, the numbers are random.

4. The government has raided the trust fund

The federal government does not take money from Social Security to pay general operating expenses. Payroll tax revenue has gone into Social Security’s trust fund ever since the fund was created in 1939, and this trust fund is separate from the country’s general funds.

However, the trust fund does invest in government-backed securities, including special obligation notes, that pay interest. So, in this way, it does provide funding for the federal government, but it does so no differently than an individual who buys U.S. Treasury bonds as an investment.

5. I can’t collect on my ex’s Social Security

Your ex might not want this to be true, but former spouses can collect on their ex-spouse’s Social Security record, as long as certain conditions are met. And it won’t reduce an ex-spouse’s payment.

In order for this to happen, a marriage has to have lasted at least 10 years, and the individual has to be unmarried. An ex-spouse can collect up to 50% of the former spouse’s full retirement benefit; however, that amount can’t exceed what the person would otherwise receive based on their own work record. If their own payment would be bigger, then that’s the payment they’d receive.

6. Social Security is broke

No, it’s not broke, but there are financial question marks that need to be addressed.

Social Security is financed by payroll taxes on current workers, and the number of retiring baby boomers means there are more recipients and fewer workers paying taxes. As a result, payroll tax revenue hasn’t covered the program’s expenses since 2010, and that’s forcing Social Security to tap its trust fund to make up the difference.

If Congress doesn’t make some changes beforehand, Social Security’s trustees estimate that the trust fund will no longer be able to close the funding gap beginning in 2034. At that point, Social Security payments will have to be reduced by 25% across the board to match whatever money comes in from payroll taxes.

7. Social Security guarantees financial security in retirement

Not necessarily. Social Security is designed to replace about 40% of pre-retirement income, and increasingly, people are entering retirement with bigger mortgages and more student loan debt, and that’s straining their budgets. Financial security in retirement is also under pressure because fewer employers are offering pensions, and workers are failing to save enough money in retirement accounts to pick up the slack. About half of baby boomers have less than $100,000 in retirement accounts. That’s unlikely to be enough to guarantee a worry-free retirement — especially since the average retired worker is only collecting $16,320 in Social Security income this year.

Where To Invest

My Comments: There is a lot of fear these days about money. We all know that from time to time the markets experience a correction. Depending on how old you are and when you expect to use the funds you have, this fear is normal.

So how do you deal with it? Again, depending on your age and attitude about investment risk, you turn either to a trusted third party to make those decisions for you or you figure it out on your own. Or a little of both.

As a professional retirement income planner, I’ve got some experience with this question. But like everything else in life, I can only make an informed guess about the future. Here are some suggestions for you to consider.

By James Connington / Jun 26, 2017

With markets at all-time highs, investors are sitting on cash and struggling to decide how to use it.

The fear is that they will be investing at the worst possible moment, and face seeing investment values plunge if and when the market takes a downturn.
In Britain, seemingly unending political turmoil has been accompanied by a meteoric rise in the FTSE 100 index that many worry can’t continue.

When it comes to the US, neither active funds – which mainly fail to beat the market over any meaningful time period – or buying the incredibly expensive market, via an index tracker fund, look like appealing options.

Telegraph Money spoke to a selection of fund managers to help narrow some options that still offer a good balance between risk and reward.

All of these managers run multi-asset or multi-manager funds – all-in-one portfolios that contain a mix of shares, bonds, funds or other assets from a variety of sectors.

In theory, this should minimise the bias to a particular asset or region specialist managers may fall victim to.

Their picks include investment trusts specialising in property, European and Asian stocks, and the US energy sector.

Jacob Vijverberg, Kames Capital

Mr Vijverberg said he is less comfortable with assets that are dependent on earnings growth, such as regular stocks, because he thinks earnings expectations are too high.

Instead he highlighted global real estate investment trusts (Reits) as offering a good risk-reward balance.

A Reit is a listed company that owns and runs buildings to generate an income for investors.

Mr Vijverberg said: “We expect rates to stay low in the developed world, meanings Reits can continue borrowing cheaply. Additionally, rental contracts are generally linked to inflation, offering guaranteed income increases.”

He favours Reits that own properties used for logistical or industrial purposes, or hotels, rather than residential buildings.

In its multi-asset funds, Kames holds Tritax Big Box; this Reit invests in large warehouses and logistics facilities in Britain used by retailers such as Amazon. It charges 1pc.

Late last year, the Kames multi-asset team increased its investment in American Reits too, including Welltower, which invests in care homes and health facilities.

Welltower is listed on the New York Stock Exchange and is a part of the S&P 500 index. British investors should be able to access it via “fund shops” that offer international share dealing such as Hargreaves Lansdown and TD Direct.

John Husselbee, head of multi-asset at Liontrust

Mr Husselbee said that while stock markets continue to “shrug off” political events, “it’s hard to point to any sector that screams real value on a short to medium term view”.

He explained that diversification is therefore more important than usual, and so the best risk-reward proposition at present “lies in the developing markets of the Asia Pacific (excluding Japan) and emerging markets sectors”.

For Asia Pacific specifically, he said the region offers an “attractive and diversified dividend income”, which has value given many investors’ desperate hunt for income producing investments.

He highlighted Schroder Asian Income as one way to gain exposure, as it “provides a degree of safety in what can be a volatile market”. The fund charges 0.93pc and yields 3.5pc.

In the wider emerging markets sector, Mr Husselbee recommended Stewart Investors Global Emerging Markets Leaders. The fund charges 0.92pc.

Marcus Brookes, head of multi-manager investing at Schroders

Mr Brookes said European and Japanese stock markets offer better value than the US market at the moment.

This, he explained, is largely due to the lower valuations on offer, but also due to concerns that US company margins and sales “could be peaking”.
He said this would be a “worrying condition should the US experience an economic misstep”.

He explained: “In Europe and Japan we find relatively attractive valuations combined with margins and sales that are far from their peak.”

In his popular Schroder Multi Manager Diversity fund, Mr Brookes has around 6pc invested in the TM Sanditon European Select fund, and 4pc in the Man GLG Japan Core Alpha fund.

These charge 1.16pc and 0.9pc respectively.

Bill McQuaker, Fidelity

The US is the world’s biggest market, yet not all of its component sectors have been doing as well as the overall market.

Mr McQuaker picked out the energy sector as offering an investment opportunity.

He said: “The energy sector is down by around 20pc relative to the S&P 500 over the year to date, and would benefit from any rally in the oil price.”
This is something he views as likely due to global oil cartel OPEC’s extended production cuts, and the “overestimated” impact of US shale oil production on the global price of oil.

If you want to buy the whole US energy sector, BlackRock offers its iShares S&P 500 Energy Sector “exchange traded fund”.

The charge is 0.15pc, to track an index comprised of the S&P 500 stocks categorised as energy companies. Exxon Mobil and Chevron account for more than 40pc of the index.

The other option is a global energy fund that invests heavily in the US. Guinness Global Energy is often tipped by experts Telegraph Money speaks to. It is around half invested in the US, and charges 1.24pc.

Artemis Global Energy, Investec Global Energy and Schroder Global Energy are all between 40pc and 60pc US invested too.

How Republics End

My Comments: We are now six months into the Trump presidency. I somehow knew it was going to be a challenge because the values that surround him are so very different from mine. What I didn’t expect was the utter fecklessness, wrapped inside a veneer of patriotism.

I now have many more unresolved fears about the world I’m leaving to my children. I can only hope they find a remedy for how our society will evolve after I’m gone. Unless there is a clear and viable understanding of what’s at stake, it may not matter that the next generation of voters show up in numbers at the polls. Who is there to say that if they do vote in large numbers, it will make a difference if their votes are not counted.

We are at an inflection point, and simply offering prayers will not help. It might make you feel better but those pulling the strings don’t give a damn how many prayers are offered. It may be that Paul Krugman is overreacting, as am I. But if we’re not, are you ready to give up without a fight?

Tell me how it might play out in four years if a Democrat wins the White House. Who’s to stop Congress and Donald Trump from the same stunt pulled last fall by the outgoing governor of North Carolina. They just wrote the playbook on this and the other side caved. They had no options left.

Paul Krugman \ DEC. 19, 2016

Many people are reacting to the rise of Trumpism and nativist movements in Europe by reading history — specifically, the history of the 1930s. And they are right to do so. It takes willful blindness not to see the parallels between the rise of fascism and our current political nightmare.

But the ’30s isn’t the only era with lessons to teach us. Lately I’ve been reading a lot about the ancient world. Initially, I have to admit, I was doing it for entertainment and as a refuge from news that gets worse with each passing day. But I couldn’t help noticing the contemporary resonances of some Roman history — specifically, the tale of how the Roman Republic fell.

Here’s what I learned: Republican institutions don’t protect against tyranny when powerful people start defying political norms. And tyranny, when it comes, can flourish even while maintaining a republican facade.

On the first point: Roman politics involved fierce competition among ambitious men. But for centuries that competition was constrained by some seemingly unbreakable rules. Here’s what Adrian Goldsworthy’s “In the Name of Rome” says: “However important it was for an individual to win fame and add to his and his family’s reputation, this should always be subordinated to the good of the Republic … no disappointed Roman politician sought the aid of a foreign power.”

America used to be like that, with prominent senators declaring that we must stop “partisan politics at the water’s edge.” But now we have a president-elect who openly asked Russia to help smear his opponent, and all indications are that the bulk of his party was and is just fine with that. (A new poll shows that Republican approval of Vladimir Putin has surged even though — or, more likely, precisely because — it has become clear that Russian intervention played an important role in the U.S. election.) Winning domestic political struggles is all that matters, the good of the republic be damned.

And what happens to the republic as a result? Famously, on paper the transformation of Rome from republic to empire never happened. Officially, imperial Rome was still ruled by a Senate that just happened to defer to the emperor, whose title originally just meant “commander,” on everything that mattered. We may not go down exactly the same route — although are we even sure of that? — but the process of destroying democratic substance while preserving forms is already underway.

Consider what just happened in North Carolina. The voters made a clear choice, electing a Democratic governor. The Republican legislature didn’t openly overturn the result — not this time, anyway — but it effectively stripped the governor’s office of power, ensuring that the will of the voters wouldn’t actually matter.

Combine this sort of thing with continuing efforts to disenfranchise or at least discourage voting by minority groups, and you have the potential making of a de facto one-party state: one that maintains the fiction of democracy, but has rigged the game so that the other side can never win.

Why is this happening? I’m not asking why white working-class voters support politicians whose policies will hurt them — I’ll be coming back to that issue in future columns. My question, instead, is why one party’s politicians and officials no longer seem to care about what we used to think were essential American values. And let’s be clear: This is a Republican story, not a case of “both sides do it.”

So what’s driving this story? I don’t think it’s truly ideological. Supposedly free-market politicians are already discovering that crony capitalism is fine as long as it involves the right cronies. It does have to do with class warfare — redistribution from the poor and the middle class to the wealthy is a consistent theme of all modern Republican policies. But what directly drives the attack on democracy, I’d argue, is simple careerism on the part of people who are apparatchiks within a system insulated from outside pressures by gerrymandered districts, unshakable partisan loyalty, and lots and lots of plutocratic financial support.

For such people, toeing the party line and defending the party’s rule are all that matters. And if they sometimes seem consumed with rage at anyone who challenges their actions, well, that’s how hacks always respond when called on their hackery.

One thing all of this makes clear is that the sickness of American politics didn’t begin with Donald Trump, any more than the sickness of the Roman Republic began with Caesar. The erosion of democratic foundations has been underway for decades, and there’s no guarantee that we will ever be able to recover.

But if there is any hope of redemption, it will have to begin with a clear recognition of how bad things are. American democracy is very much on the edge.

Retirement For Workaholics

My Comments: I’m NOT a workaholic. But I’ve learned that ‘retirement’ means very different things to people. For many of us, it’s an ugly word. For me it just means doing what I’ve done for decades, but with a recognition that today it takes me two hours to do what I used to do in one hour. With more frequent naps.

Douglas Dubitsky/Jul 5, 2017

This article is reprinted by permission from NextAvenue.org.

Can a workaholic ever retire?

Many workaholics genuinely enjoy the rush of starting and completing projects and continuing the nonstop cycle. So it may also be difficult for them to contemplate what life may be like in retirement once they are officially out of the workforce.

If you’re a workaholic, smoothing your transition to retirement means uncovering the answer to the question: What part of the end of your job will you miss the most? It might be the people. Or the challenges. Or having purpose. Once you know which it is, you can focus on how to reap the same benefits — and feelings — while not holding down full-time employment.

5 retirement tips for workaholics

1. Start slowly. If you jump into retirement all at once, the shock to your routine might be too much to handle. Instead, look for opportunities where you can work part-time, even with your current employer.

Cut back on your work hours gradually and your nonworking life could just slip into place. Look for a weekend job, or an after-hours job, to start while you’re employed full time. This could turn into part-time employment that you may want to pursue during retirement.

You might want to find out if your current employer would consider keeping you on as a consultant in retirement. This may help your employer retain your institutional knowledge while you enjoy a more flexible schedule.

If you plan to take Social Security retirement benefits before Full Retirement Age (between 66 and 67, depending on when you were born) and work at the same time, however, your benefit will be reduced if you make more than the yearly earnings limit. In 2017, the Social Security earnings limit is $16,920. Social Security deducts $1 from your benefit payments for every $2 you earn above the earnings limit.

When it comes to retirement, 60s are the new 50s. Instead of retiring, more and more people are working through their 60s to maximize their earnings. Here’s what you need to do in your 60s to make sure you live comfortably in retirement.

2. Experiment and schedule. As you wean yourself away from work, look for new ways to occupy your mind. This could be as simple as taking a cooking class, volunteering or exercising every morning before breakfast.

Also, at least in the beginning, either schedule your days down to the hour so you always have something to do or time-block the beginning or ending half of the day.

Has your spouse or any of your friends retired recently? Retirement may prove to be a great opportunity for you to spend more time with him or her. The same goes if you have children or grandchildren. You can reroute the attention you gave to your job to your family and friends.

3. Give yourself a break. A recent study by my company, The Guardian Life Insurance Company of America, found that one in six Americans is very dissatisfied with his or her life. Often, workaholics feel guilty about not having spent enough time with their families during their careers. Some didn’t pay attention to themselves either, or to the physical and mental benefits that come with rest.

So as you ease into retirement, don’t forget to take care of your own needs even as you strive to care more for those around you.

4. Talk it out. If you find that postwork life is more difficult than you anticipated — or even worse, that you’re feeling depressed or overwhelmed — don’t hesitate to get help. It’s important that you talk about your feelings with friends, family or other retirees going through similar transitions.

5. Look ahead. Most retirees find it doesn’t take long to adjust to life without a full-time job. Keep this in mind as you look toward your personal retirement plan. Focus on your retirement the way you’ve focused on your work and the years ahead can be your best ever.

The Forces Behind Income Inequality in America

My Comments: Followers of my posts have heard me say that income inequality is the greatest existential threat to our society. It ranks up there with global warming.

The path we appear to be on right now, both here in the States and across the planet, will not change until this issue is addressed. It will lead to the same destructive ethos that caused communism to fail; without an economic incentive to push toward a better future, productivity disappears.

An example of this appears in the middle east today. With little chance of economic gains, young people, deprived of the chance to grow a family, live ‘normally’ with a promise of future prosperity, turn instead to religion and jihad. For many, they have nothing to lose so they embrace the myth that salvation is on the other side.

By Charles Bovaird | September 10, 2016

Several factors have come together to fuel income inequality in the United States. While many market observers have examined this rising inequality, the McKinsey Global Institute took a different approach, taking a closer look at people whose income either stayed flat or declined, compared to individuals from the past who had similar incomes or demographic profiles. Between 2005 and 2014, two-thirds of U.S. households saw their real market incomes either stall or drop.

The report paid particular attention to this 10-year period, because it contrasted with the income growth that households in advanced economies have generally enjoyed since World War II.

While the report found that the financial crisis of 2007-2009 and its subsequent slow recovery played a key role in this deterioration, this event was worsened by shifts in labor market conditions and demographic trends. The falling share of gross domestic product (GDP) going to wages, the rise of workplace automation and shifting demographics all played their part.

Financial Crisis and Recovery

Following the financial crisis, the global economy suffered one of the most severe recessions since the Great Depression. Once the nations of the world emerged from this downturn, many experienced recoveries that were rather sluggish.

The United States, for example, experienced GDP growth that averaged only 2.2% between the end of the recession in June 2009 and the end of 2014. This represents the weakest expansion of the post-World War II era. The figure of 2.2% was more than 0.5% below the rate experienced during the second-weakest recovery of the last 70 years.

In addition to this modest growth, inflation-adjusted wages have increased very little during the recovery. Private payrolls’ average hourly earnings have increased an average of roughly 2.1% a year, but after adjusting for inflation, real wages have barely grown at all, according to the Center on Budget and Policy Priorities.

Falling Wage Share

The wage share, the proportion of national income that is paid in wages, experienced a sharp change following the financial crisis. Before this event, an average of 18% of U.S. GDP growth went to median household income growth, according to figures provided by the report.

This figure dropped to 4% in the seven years following the recession, additional data included in the report showed. In addition to suffering this sharp decline, the portion of national income going to wages was undermined by changes in the labor market and demographic trends.

Demographic Shifts

While the incomes of most segments of the population either stalled or declined between 2002 and 2012, some demographic groups experienced a greater impact, the McKinsey report found. Less-educated workers, younger ones in particular, took a larger hit than those in other demographics. The report also noted that women, and single mothers in particular, were more likely to show up in lower income deciles.

Labor Market Shifts

The labor market experienced some structural changes between 2005 and 2014. One major variable affecting this market was automation. The rising use of personal computers has eliminated many clerical positions, and robots have taken the place of many machine operators in factories. Past that, “smart” machines have made it possible to automate many tasks that were previously considered beyond automation.

McKinsey’s report estimated that with technologies that are available or have been announced, companies could potentially automate tasks that account for 30% of the hours spent by 60% of U.S. employees.

Summary

Several variables helped income inequality rise between 2005 and 2014, a development that took place as two-thirds of American households saw their income either stay flat or decline. In addition to a financial crisis and lackluster recovery, labor market shifts, demographic trends and falling wage share all helped fuel this growing disparity.

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Is Social Security Going Broke?

My Comments: In 1983, when Social Security was on the verge of going broke, Congress made some changes to keep it alive and well. It’s again on the verge of going broke and there are ways to fix it.

But were not yet close enough to the edge of the cliff for there to be the necessary political will to fix it.

You have to remember, things only get done within the context of ONE ELECTION CYCLE. Absent that pressure, the can gets kicked down the road. The remedy won’t likely appear until 2030. If then.

Social Security is expected to run out of money by 2034. Here’s the problem. by Matthew Frankel \ Mar 26, 2017

You may have heard certain things about Social Security’s financial condition — maybe that the system is “broke” or that it won’t be able to pay benefits for much longer. Fortunately, statements like these are a bit of an exaggeration. Social Security’s trust fund has plenty of money in it for the time being, but this isn’t expected to last beyond 2034. Here’s the truth about the current state of Social Security’s finances and why it is projected to run out of money in about 17 years.

The current and projected financial state of Social Security

According to the 2016 Social Security Trustees Report, the most recent available, the Social Security trust fund had roughly $2.8 trillion in reserves at the end of 2015. What’s more, Social Security has run at a surplus since 1982 and is projected to do so through 2019. In other words, for the next three years, Social Security’s income from taxes and investment revenue will exceed the cost of the benefits it pays out.

Unfortunately, that’s where the good news ends. In the year 2020, Social Security is projected to start running annual deficits, which are expected to grow quickly and continue for the foreseeable future. In order to pay benefits, reserve assets from the trust fund will need to be redeemed. As a result, the Social Security trust fund is expected to be completely depleted by 2034. After this point, the incoming tax revenue will only be enough to cover about three-fourths of promised benefits.

To be perfectly clear, the reason Social Security is expected to start running annual deficits and eventually run out of money isn’t because of fiscal mismanagement or anything of that nature. Rather, it’s a simple cash flow problem.

Reason 1: Baby boomers are retiring

It all starts with the post-World War 2 “baby boom.” During the time period from the end of the war until about 1964, babies were being born at some of the highest rates in modern history. To illustrate this, here are the total fertility rates, defined as the number of babies born per woman throughout her lifetime, based on the birth rate of that year, throughout our recent history.

As you can see, there was a huge uptick in the number of babies being born in the post-war decades. Since then, the total fertility rate has held steady at around two children per woman.
The baby boomer generation is generally defined to be Americans born between 1946 and 1964. Therefore, this group represents Americans ages 53 to 71 today. In other words, this is the group that is starting to retire now, and will continue to reach retirement age over the next decade and a half.

Reason 2: Modern medicine has resulted in longer life expectancies

The other contributing factor to Social Security’s expected financial woes is that modern medicine has resulted in Americans living longer lives and therefore collecting Social Security benefits for a greater number of years.

According to the Social Security Administration’s (SSA) life tables, a man who was born in 1900 lived for about 13 years after reaching the age of 65. However, a man born in 1960 (a member of the baby boomers I discussed earlier) is expected to live roughly 18 years after reaching 65 years of age. And the life expectancy improvement is nearly as dramatic for females as well. In other words, the current group of retirees is expected to collect Social Security benefits for almost five years longer than the group of retirees 60 years prior.

And this trend is expected to continue going forward. As you can see in the chart below, the average person born in 2000 will live over two decades after reaching the age of 65.


More money flowing out than coming in

As a result of this combination of baby boomers retiring and senior citizens living longer lives, there will be far fewer workers paying Social Security tax for each beneficiary receiving retirement benefits. Image source: 2016 Social Security Trustees Report.

As you can see, from 1980 until almost 2010, the ratio stayed steady at 3.2-3.4 workers paying into Social Security per beneficiary. As of 2016, this ratio has already dropped well below 3-to-1, and is expected to decline rapidly over the next few decades, reaching a level of just 2.2 workers per beneficiary by 2035.

What can be done?

The good news is that there is still time to fix the problem, and there are two main ways it can be done.

• Decrease benefits, which could come in the form of an across-the-board cut, or increase the full retirement age, cut benefits to wealthy retirees, or several other ways.
• Raise Social Security taxes. The current tax rate is 6.2% for employers and employees, assessed on up to $127,200 of earned income. So, a tax increase could either be a higher tax rate or a raising or elimination of the taxable wage cap.

There’s no way to predict the eventual reform package that will be passed, but history tells us that something will be done. It’s just a matter of how long it will take Congress to act and what the eventual solution will look like.

Image sources: Social Security Administration.