I was a member of AAII a number of years ago, but dropped my subscription. This week I got a slick packet enticing me to join that says, “AAII Members Make Nearly 3 Times More Profit than Most in the Stock Market.” “Join 150,000+ AAII members in outperforming the market!” “AAII Beats the Market!” The evidence: over the last 30.5 years an investment in the AAII Shadow Stock Portfolio grew 51 times compared to 18 times for an S&P index fund: you’d have +$3 million more relative to an initial $100,000 investment. AAII says they are your “guide to consistently beating the market.” This post tells you: don’t be lured. The Model has WILDLY outperformed in the distant past and BADLY underperformed in the recent past. Do not pay the money to follow the AAII Model. You will most reliably be FAR BETTER OFF by sticking with a stock index fund.

 

 

== Don’t be lured: stick with Index Funds ==

 

Yes, the AAII Model far outdistanced an SP 500 index fund over the past 30.5 years. But was it from “consistently beating the market?” NO. NOT CLOSE. I’d guess the Model would rank as almost the WORST performing stock mutual fund over the past five and ten years.

 

You can see the graph of the results of the AAII Model vs. two index funds here. I’ll focus on the Model vs. the SP 500 index fund. I spent the time this week doing my best to read the semi-log graph display. I printed the graph and annotated it here.

 

• The Model had one six-year period that spells the complete difference in the two end points. The model results soared relative to the SP 500 index fund fore six years from 2002 through 2007. Returns for the nine years to 2002 and the 15.5 years from 2008 have been the same.

 

From 1993 to 2002, the Model and the SP 500 index fund had the same cumulative return: the two lines touch in 2002. Then the two lines depart. The slope of the line for the Model is much steeper than that for the SP 500 fund; steeper up is greater return; the distance between the two lines is growing; the Model’s cumulative return is more than the SP 500 index fund.

 

From 2007 to the present the model and the SP 500 index fund have had the exact same results. I can tell that by looking at the distance between the two lines starting in 2008 and the distance between the two today. It’s 2.4 cm at both points. If the lines are the same distance apart at two points in time, the returns are the same.

 

I can describe this differently. I could draw a line connecting the point for 2008 to the present for each line. The lines would be parallel. Therefore, the return rates over that period were the same and the total returns were the same.

 

• The Model has underperformed the SP 500 index fund by about HALF since 2015. I calculate that as underperforming by an average of nine percentage points per year. If the Model were a mutual fund, I think it would rank as perhaps the WORST of all stock mutual funds.

 

 

The Model had another sharp rise from 2008 through 2014: that steeper upward climb for the Model increased the distance between the two. But since 2015, the distance narrowed.

 

I can measure the vertical change in distance from 2015 to the present. That distance translates to a growth multiple: a doubling of return = 1.5 cm on my graph. The change in distance for the Model from 2015 to the present is 1.1 cm; that translates to 1.6 times total return or 5.7% per year. The change for the SP 500 index fund from 2015 to the present is 2.4 cm; that translates to 3.2 times total return or 14.7% per year.

 

== Problem: No independent verification ==

 

I find no independent verification of the AAII model. The Hulbert Financial Digest has tracked the performance of many portfolio models and stock picking newsletters for over 30 years. Hulbert measures performance by determining the price a subscriber would really pay to buy and get to sell. Results were not nearly as good as the data provided by the newsletter.

 

The problem was that a newsletter would issue a Buy signal, and subscribers would buy that day or the next, but the trading volume drove up the price. Almost no one obtained the price the newsletter used for its tracking of performance at both Buy and Sell signals. The methodology that Hulbert uses corrects for these potential distortions. He used the prices a subscriber would get. See “Methodology” under “Performance Scoreboards” on his web site.

 

The AAII Model likely suffers from the same effect. Why haven’t they subjected this model to Hulbert’s independent analysis?

 

I can see a partial list of the 35 stocks in the Model here. I look the few up on MarketWatch. I’m guessing that they have an average market capitalization of $100 million: this is a portfolio of micro-cap stocks. I see the typical trading volume might be 50,000 shares in a day.

 

I can imagine that AAII posts a Buy signal for a company at $10 per share (That’s likely what they use as the acquired price for the Model.). But those following the model can’t buy at $10 because the trading volume that day might be extraordinary and drive up the price. It would be the opposite effect on a Sell signal.

 

 

 

Conclusion: Rising to be in the top ranks of all investors is pretty easy. Stick with index funds. Over time, 15 of 16 actively managed funds fail to match the performance of their peer index funds. I think NO portfolio model of individual stocks from a stock-picking newsletter reliably outperforms an index fund.

 

The AAII Shadow Portfolio has outperformed over the past 30 years. It soared mightily for a six-year period 2002 through 2007. It did not outperform before 2008, and it did not outperform from 2008 to the present. It has badly underperformed recently: the cumulative return for the Model is roughly HALF that of an SP 500 index fund since 2015. It lags by about nine percentage points per year. The Model is not a mutual fund, but I think it would rank at the VERY BOTTOM if it were.

 

Don’t buy into the claim that 150,000+ “AAII Members Make Nearly 3 Time More Profit that Most in the Stock Market? Don’t think you will do better than an index fund by following AAII’s recommended Shadow Stock Model.

Ideally, before costs, index funds exactly match the index they attempt to mimic. Returns for shareholders of the fund should be the returns for the index less the fund’s expense ratio. This doesn’t always hold true because of tracking errors – the funds inability to exactly match the performance of the index before costs. This post shows the tracking errors are VERY SMALL for index funds that try to mimic to broad indices of US stocks. A surprise to me: several funds offset all of their expense ratio and return more than the market index returns to fund shareholders.

 

I conclude that any of these index funds in this post are terrific investments whether they are perfect in tracking their index or not. They all return +99.4% of their benchmark index to their shareholders. The difference in the dollar returns between the index funds is small – at most on the order of $5 per year per $10,000.

 

 

The +99.4% returned to investors should be compared to about 91% returns to shareholders from actively managed funds. That 91% is the result of the average expense ratio of about 0.66% for the average actively managed funds.

 

== S&P 500 index funds ==

 

I recommend you hold a US Total Market index fund. But S&P 500 funds are the most popular index funds. The S&P 500 index accounts for about 85% of the value of all stocks. Over the past decade or so, S&P 500 stocks have outperformed the remaining 15% of the market – the remaining 3,600 or so mid and small cap stocks. That trend will likely change in time.

 

S&P 500 index funds come VERY CLOSE to the simple math of Shareholder Return = Index Return less the funds Expense Ratio. A fund’s expense ratio is its administrative, operating and management expenses charged as a percentage of the fund’s average assets under management. A fund’s trading or transaction fees are not included in fund’s expense ratio. You can view the fund’s expense ratio as a direct deduction of the fund’s annual return before costs; the fund’s trading fees would add to the deduction.

 

The expense ratio for the S&P funds I looked at range from a low of 0.015% to a high of 0.04%. Using 7.1% as the long run average or expected return for stocks, that roughly means all these funds should – and do – return more than 99.4% of the index return to shareholders.

 

I show the performance of five S&P 500 index funds: Fidelity’s FXAIX; Vanguard’s VFAIX and its sister ETF, VOO; Schwab’s SWPPX; and Blackrock’s iShares ETF IVV.

 

 

• FXAIX has the lowest expense ratio (0.015%). It consistently returns to shareholders the index return less 0.10%. That’s the lowest net reduction from the index and the highest net return to shareholders of the five.

 

 

• Vanguard’s 500 fund VFIAX is the first index fund, formed in 1976. Its expense ratio is 0.04%. Returns are fairly consistently 0.04% less than the index. VFIAX also accurately tracks the index before consideration of costs, and returns about 0.03% less than FXAIX – the difference in their expense ratios. The sister ETF from Vanguard, VOO, is 0.01% lower expense ratio. The price of VOO over time reflects this lower expense, and it returns roughly 0.01% more than VFAIX over time.

 

 

• Schwab’s SWPPX has an expense ratio of 0.02% that almost matches that of FXAIX and is half that of VFIAX. Its returns to shareholders are about the same Vanguard’s VFIAX. The fund, before costs, is not tracking the S&P 500 as precisely as the other two.

 

 

• Blackrock’s iShares ETF IVV has an expense ratio of 0.03%. The returns to shareholders fairly consistently track the index less 0.03%.

 

 

The differences in dollar return from these funds is small – on the order of $5 per year per $10,000 invested.

 

 

== US Total Market funds ==

 

Patti and I own a US Total Market fund as our only US stock market fund. I recommend the same kind of fund for your US stocks.

 

 

The data below shows that Vanguard Funds return more to shareholders than the other funds. The reason for the difference in return isn’t from tracking errors. All but Vanguard in my sample use Dow Jones S&P Total Market Index (DJ-TMI) as their benchmark. Vanguard uses the Center for Research on Security Prices Total Market Index (CRSP-TMI) as its benchmark. The returns for CRSP-TMI are greater than that for DJ-TMI over three, five, and ten years. I have no explanation as to why or if this will continue in the future.

 

 

• The four that aim at the DJ-TMI generally return more than the benchmark index over five and ten years. Before costs, they earn more than the index. FSKAX has consistently returned more than the index. Funds lend securities to shortsellers and generate income that offsets their expense ratio. I think all these funds invest a portion of their assets in derivatives – options – try to help returns, and FSKAX may have consistently done a good job.

 

 

 

All three own fewer stocks than the total in the index. FSKAX owns 95% of the total of 4,150 stocks in the DJ index. ITOT owns 78%. The sampling method used for the stocks not owned may also be a source of the outperformance.

 

• Vanguard’s VTSAX returns about 0.02% less than the CRSP Index relative to its 0.04% expense ratio. It, too, performs better than the index before costs. I show the sister ETF for this fund, VTI, that has 0.03% expense ratio. It performs about 0.02% better in return per year than VTSAX and has returned the benchmark index.

 

 

The differences in dollar return from all these funds is small – also on the order of $5 per year per $10,000 invested.

 

 

 

Conclusion: Ideally the return for shareholders for an index fund is the return for index less the expense ratio for the fund. This is almost exactly true for all index funds that track the S&P 500. The most consistent in my sample is Fidelity’s FXAIX which fairly consistently returns 0.01% less than the S&P 500 index returns.

 

It’s a bit harder to compare funds for US Total Stock funds, since funds don’t use the same index for the benchmark. Vanguard uses a benchmark index that has had greater returns than the benchmark used by other funds in my sample. The Vanguard fund VTSAX and ETF VTI have provided the greatest return to investors.

 

All these funds return +99.4% of the index return to their shareholders. Some manage to return more than the index return to their shareholders. The dollar difference in returns to shareholders for these funds are in the range of $5 per year per $10,000 invested. I conclude any of these funds is a terrific investment.

A final data point for inflation in July was issued Thursday morning. The important chart below is the one for Personal Consumption Expenditures, a measure the Fed favors. The rate for both June and July were about half that of the average of the prior two years and aim at 2.4% annual inflation.

 

Going deeper: below I display a table and the same six graphs that I’ve use to follow the trends in inflation.

 

 

The two most widely-reported measures of inflation are Seasonally-adjusted inflation and Core inflation.

 

Seasonally-adjusted inflation increased by 0.17% in July. The rate over the last six months translates to an annual rate of 2.5%. Inflation over the past 12 months has been 3.3%.

 

 

Core inflation excludes volatile energy and food components. This is similar to the measure below favored by the Federal Reserve. June and July are markedly lower than prior months. Inflation increased 0.16% in June and July. These two aim at an annual rate of 1.9% per year, less than half that of the prior 10 months.

 

 

Personal Consumption Expenditures (PCE) excluding Food and Energy is the measure of inflation is one that the Federal Reserve Board favors. The increase this month was 0.22%, almost the same rate in June. These two aim at 2.6% annual inflation.

 

 

The past 12 months of 3.2% inflation is an uptick from last month: this July ’23 replaced an abnormally low July ’22.

 

 

== History of 12-month inflation ==

 

Full-year inflation measured by CPI-U shows that inflation for the last 12 months has been 3.2%. This is slightly greater than the historical results in June: July 2023 was positive while July 2022 was a negative rate.

 

 

== Producer’s Price Index ==

 

The change in producer prices will impact consumer inflation. PPI over the last six months is at a -5.5%. annual rate.

 

 

== Services ==

 

Inflation for services is trending lower. The last four months are at 2.7% annual rate as compared to 6.1% for the past 12.

 

 

 

Conclusion: The Core rate of inflation in July was 0.16%, the same as June; these two months aim at less than 2% annual inflation. The low inflation for July was repeated in the index of Personal Consumption Expenditures, the inflation measure favored by the Federal Reserve; June & July aim at 2.6% annual inflation.

We’re in England right now. Patti and I like active vacations. I like knowing we’re going on a vacation that requires that I am in reasonable shape. Without that goal in the future, I wouldn’t exercise nearly as much as I do. What is that motivates you? What is your exercise routine?

 

== Walking our my main exercise==

 

Hiking is our primary daily activity in England. England has over 400,000 miles of walking trails. Years ago, we’d walk more than 100 miles for ten walking days. At my age (78), those days are past. We’ll do day hikes. We aren’t committed to walk every day. The number of miles that are comfortable have declined. I’ve learned to limit elevation gain to less than 1000 feet.

 

I work to build my endurance for these trips. It was harder this year. Last fall I walked a total of nine miles on several days to prepare for our trip to France. I managed one day at 7½ miles in preparation for this trip, and I was pooped. I set six miles as our comfortable limit in England. One hike that we’ve liked in the past in the Shropshire Hills is six miles. That will be about perfect.

 

I’ve read that about 7,500 steps per day is good. That’s about 2½ miles – roughly one hour. I almost always take my iPhone, and it counts my steps. My United Healthcare gives me a $10 reward if I walk 5,000 steps for ten days in the month. That’s less than two miles and about 40 minutes. That hasn’t been much of a problem this summer.

 

 

I’ve done well over the year, averaging more than 7,500 steps per day.

 

 

== What I need to do ==

 

I no longer the attend the exercise classes that I used go to before COVID. My strength conditioning is not where it should be. I’ve not built a routine. I need to work on that, since some suggest that strength conditioning is more important than walking.

 

I saw my PCP for my annual wellness visit last month. She tested me for balance. I have to walk a few steps heel to toe and stand with arms out and eyes closed. I’m not good at the heel to toe walk. She suggested that I start balance exercises. I know that’s important. I lost my balance on a steep part of the trail in Japan – for no good reason – and fell. I managed to knock Patti off her feet, too. We weren’t hurt, but the fall was a shock.

 

 

Conclusion. As we get older I think we need to exercise regularly to stay in shape. It’s harder for me now that I’m in my late 70s. I use our bigger trips –all are geared to walking – as motivation. I’ve managed to average about 2½ miles per day over the last year, roughly 7,500 steps per day.

My strength and balance training have fallen. I’ve lost the urge to go to the exercise classes that I did before COVID. I’ve got to work on those two.

What’s the correct mindset in the Save and Invest Phase of life? That’s up to roughly age 55 or 60. That’s the start of the transition to your Spend and Invest Phase of life that I assume starts at age 65. The focus then is not to outlive our money, and our mindset then must be very different; I’ll discuss the major differences in a future post.

 

 

Your objective in your Save and Invest phase of life is to invest with the most reliable chance for More in the future. You want each investment you make to be reliably More when you sell it for your spending. You particularly want to have More near the start of your Spend and Invest phase. That’s going to determine how much you can safely spend from your portfolio for the rest of your life. Follow the advice in this post and you will be in the top ranks of investors in your Save and Invest phase of life. Perhaps only one in 50 will have greater returns than you.

 

Think that each annual amount you save and invest has a holding period – the number of years you hold on to an investment before you will sell if for your spending. You will have relatively short holding periods and very long holding periods. When you are saving for a down payment on a home in the next five years, your most reliable chance for More – more specifically, your lowest chance for Less – is to keep your money in money market or CDs. No stocks.

 

The money you contribute to your retirement plan has very long holding periods. You’ll hold each annual amount you save and invest in your 20s for nearly 40 years. You’ll hold the investments you make for retirement in your 30s for nearly 30 years.

 

Think of the amount you save and invest this year as a gift that you will open many years in the future. You’ll make perhaps 40 gifts up to age 65, and you’ll open those gifts for perhaps 20 years when you are retired.

 

It’s not precise, but I think it’s simpler to think that all the gifts you make in this phase have a 25-year holding period. The gift you make at age 40 is the gift you will open in your 65^th year. The gift you make at age 41 is the gift you will open in your 66^th year. And so on.

 

All gifts of 25 years (actually far fewer than 25) must solely be invested in stocks. Stocks are the CERTAIN path to More. Any bonds you hold will result in less in total. Stocks have never declined over 25 years. On average stocks return 3.3 times that of bonds. Bonds have never outperformed stocks in any 25-year holding period; stocks were 10% better than bonds in the 25-year period that bonds came closest to stocks. This description tells the obvious advantage of stocks.

 

 

You will only achieve the results you want by investing in broad-based index funds. You won’t achieve them by trying to beat the market. The results cited assume you match the market returns less a very low expense ratio – the annual percentage costs you incur that is a deduction from gross market returns. Attempts to beat the market – invest in higher cost actively managed mutual funds that tell you that they will outperform, for example – fail in 15 of 16 chances and on average lower the amount you have in the future by about 13%. That’s 13% less per year that you’ll be able to safely spend when retired.

 

Save in retirement accounts. The benefit of tax-free growth will be about 15% more after taxes. ALWAYS contribute to your employer’s plan to get the FREE MONEY match it may offer. You are doubling your return on that portion of your contribution.

 

You must tell yourself that you have correctly invested each annual gift. The ride with stocks-only will be bumpy. Bumpy is too kind of a word for some years or periods. Downturns in stocks can be scary. Your intuitive, emotional brain will try to overrule your rational, thinking brain. You must remind yourself that each annual gift is correctly invested for More. My last 35-year gift grew 12.5X in real spending power. It rode through the 2^nd and 5^th worst one-year declines for stocks in history; the 3^rd worst three-year decline; the 3^rd longest period of 0% cumulative return for stocks.

 

You want to be a self-sufficient investor and hold just two broad-based mutual funds and only pay the expense ratio of those two funds. I hold a US Total Stock Market Index Fund (70% of my total for stocks) and an International Total Stock Market Index Fund (30%). Those two own pieces of almost all traded stocks in the world. Those are the only two I will hold for the rest of my life. My total expense ratio is less than .03%. I keep +99.5% of market returns.

 

 

Conclusion. With the right mindset you will be in the top ranks of investors in your Save & Invest phase of life. Perhaps only one in 50 investors will have greater returns than you.

 

The right mindset focuses on investing for reliably More Money for a holding period – the number of years you hold an investment before you sell it for your spending. Important targets – saving for a down payment for your first home – will have relative short holding periods. Your most reliable path to More – specifically, the least chance for Less – is to invest in CDs and money market. No stocks.

 

The amount you save and invest for your retirement has very long holding periods. Think that you’ll hold the amount you save and invest this year in your retirement account as a gift to the older you. You’ll make perhaps 40 annual gifts up to retirement, you’ll open those gifts over about 20 years in retirement.

 

All 25-year gifts (and gifts with a lot fewer years) MUST be invested 100% in stocks. Stocks are the CERTAIN path to More. Stocks have ALWAYS increased in 25 years. Stocks have ALWAYS outperformed bonds – 3.3 times more than bonds on average. You can expect annual each gift invested in stocks that you’ll open in retirement will have grown six-fold in real spending power in 25 years.

 

You must invest in broad-based stock index funds. You will almost certainly fail to beat the results of index funds if you attempt to beat the market: that tactic fails 15 of 16 chances and typically leads 13% less if you held than just held two stock index funds.

My tickler file told me that this is the week to complete my first cut on my tax plan for 2023. This post gives you a template for the spreadsheet I use. It might help you for your tax planning for this year. It’s similar to the one I provided last August.

 

== It’s important to plan your taxes ==

 

1. I plan now to estimate how much I will withhold when I take our withdrawals from our IRAs in the first week of December. I pay no estimated taxes during the year. That’s the only time I withhold: I get an interest-free loan during the first 11 months of each year.

 

2. With some planning you may avoid taxes that you will never have to pay.

 

== Two taxes I don’t want to pay ==

 

• I never want to pay Medicare Premium surcharges that I could otherwise avoid. A tripwire costs us as married, joint filers about $2,000. The tripwires will be half as far away as now when it is just one of Patti or me alive.

 

• Patti and I will never get close to the 32% bracket while the two of us are alive. But I need to think about this when it is just one of us alive. Greater RMDs then push toward that bracket. The start of that bracket is half of what it is for married, joint filers.

 

 

== Our 2023 tax return ==

 

I start with our Safe Spending Amount (SSA) for 2024. I calcuate that right after my 12-month year ends November 30. I plan to sell the first week of December to our SSA for 2024 into money market. I’ll then use autopay it out to our checking account throughout 2024.

 

• Our SSA will be the same real amount as last year. I’ll assume now that last year’s SSA adjusts for 4% inflation. The Social Security COLA increase that will be announced in October will be close to this. Our portfolio return is good so far this year (my calculation includes a very poor December 2022), but the return isn’t close to the level that means I’d calculate to a real increase in our SSA.

 

 

• Our RMD this year is less than last year. Our year-end 2022 portfolio value was about 20% less than year end 2021. That means I will get more of our SSA from greater sales of taxable securities for than last year. Taxable income and gains taxes are a much lower bite out of the total.

 

• I had a wrinkle this year. I usually sell in the first few days of December to get our SSA into cash for the upcoming year. I didn’t do that last December, since I decided to sell only bonds for our spending in 2024 and sell throughout the year. That didn’t have any real effect on this tax return: bonds had declined so much that I wouldn’t have had taxable gains to report last year, and I won’t repory any by selling this year. Bonds have gained about 3% since last December, so I came out just a little ahead by selling them throughout 2024 rather than then.

 

• Our estimated Adjusted Gross Income won’t be close to a Medicare Tripwire that we could otherwise avoid. I don’t have to consider selling from my Roth to lower AGI. I will keep that powder dry.

 

== A future tax return ==

 

I’m trying to capture what Patti’s tax return will look like when I’m no longer around. I adjust my estimated 2023 tax return for a single tax payer, lower Social Security benefits, and greater RMD – we’re older and I use 50% greater RMD; if you are younger, you should probably look at double RMD. (Read here or here if you are unclear as to why your RMD may double.)

 

I did that. I have decided not to consider actions now to avoid those two taxes that I hate. I have taken actions in the past. These are the three I have considered. The earlier I do them, the better.

 

1) Convert traditional IRA to Roth. It makes sense to pay tax now – say at 22% marginal tax – if that avoids a much greater tax – say 32% marginal tax in the future. You keep 13% less at the 32% rate than you do at the 22% rate. Roth also buys you flexibility to avoid Medicare premium surcharges that you could otherwise avoid.

 

2) Donate from more from IRAs: greater QCD donations. If you give a set amount, shift to give more earlier and less later. This the effect of lowering future RMDs.

 

3) Withdraw more from traditional IRAs and give the net to heirs for contributions to their IRAs. The effect for you plus them is, basically, no taxes paid. You pay tax but they, in effect, get a tax deduction. The net is zero tax if the marginal tax brackets are the same.

 

 

Conclusion. I complete a draft plan for taxes the first week of August. I start this year with my estimate of our Safe Spending Amount (SSA) for 2024. I figure out where I will sell securities to get it, and I estimate total taxes we have yet to pay on our 2023 return. I’ll withhold those taxes when I withdraw from our IRAs the first week of December.

 

I also do this tax planning to make sure we never cross a level of Adjusted Gross Income that triggers a Medicare premium tripwire that I could otherwise avoid.

 

I also have to think about a future tax return for a single tax payer – likely Patti’s return when I’m no longer around. RMDs could be 50% greater than now. Medicare premium tripwires and marginal tax brackets start at half of what they are for us as married, joint filers.

A final data point for June inflation was issued this morning. The important chart below is the one for Personal Consumption Expenditures, a measure the Fed favors. June was at a rate of equal to 2% annual inflation; this is lower than in the recent past. The data point confirms the June reading for Core Inflation that I described two weeks ago. One month does not make a trend, but this is a bit of encouraging news. The market is reacting positively today, and July will be a good month for stocks – up about 3%.

 

Going deeper: below I display a table and the same six graphs that I’ve use to follow the trends in inflation.

 

 

The two most widely-reported measures of inflation are Seasonally-adjusted inflation and Core inflation.

 

Seasonally-adjusted inflation increased by 0.18% in June. The rate over the last six months translates to an annual rate of 3.2%. Inflation over the past 12 months has been 3.1%.

 

 

Core inflation excludes volatile energy and food components. June broke with the pattern that was aimed at ~5% inflation. Inflation in June was +0.16% for the month, about a third that of the prior 20 months. June inflation is at a rate of 1.9% per year.

 

 

Personal Consumption Expenditures (PCE) excluding Food and Energy was issued this morning. This measure of inflation is one that the Federal Reserve Board favors. The increase this month was 0.17%. This is about half the average of the prior two years. That one month is at a rate of 2.0% per year.

 

 

== History of 12-month inflation ==

 

Full year inflation measured by the CPI-U shows that inflation for the last 12 months has been 3.0%. The historical 12-month rate has declined each of the past 12 months from its peak of 9.1% last June.

 

 

== Producer’s Price Index ==

 

The change in producer prices will impact consumer inflation. PPI over the last six months is at a -3.3%. annual rate.

 

 

== Services ==

 

Inflation for services is trending slightly downward. The last six months are at at 5.2% annual rate.

 

 

 

Conclusion: The Core rate of inflation in June was 0.16%. This was about 1/3^rd the average of the prior 20 months. The annual rate of inflation, based on the six recent months of lower inflation is about 4.5%. The low inflation for June was repeated in the index of Personal Consumption Expenditures; inflation in June was about half the average of the past two years.

We saved for retirement to have money for the basics in life and to have money to enjoy life. This post discusses how much Social Security (SS) provides for a happy retirement. We retirees understand. SS benefits alone won’t cut it. We like those reliable monthly deposits that adjust for inflation each year, but SS benefits don’t provide enough for the basics in retirement. All should save for retirement, but many do not. I think more might if they understood how little SS will provide in retirement.

 

== Why do we want money? ==

 

I’ve written about this in a number of posts. (Here, here, here, here, and here.) We want money to pay for the basics of living. We want money to spend on the things that make our life happier now and in retirement. We want money to help make our family stronger and more successful. Giving money to others can make us happy.

 

== SS benefits and the Basics ==

 

Social Security does not provide enough for what I would consider as basic living expenses. The poverty line in the US for a single adult is income of ~$14,600. That’s for food, rent, utilities, transportation, healthcare costs, clothes, and other basics. The poverty line for two is ~$19,700. Patti and I spend more than $20,000 with property taxes, utilities, and homeowners + health insurance. No food, transportation, clothes, internet or cell phone. Rent here in Pittsburgh averages $1,500 per month or $18,000 per year.

 

The Social Security benefit for a retiree with “Low” past average earnings of $29,800 – that’s about half the average of the median worker in 2023 – is roughly the poverty line. Benefits replace about half their historical average earnings. I’d assert that those who earned an average of $30,000 per year had almost no capacity to save and invest. All they have is Social Security. It doesn’t look like enough to me. I’m not sure how they make ends meet.

 

 

Almost 4 in 10 of those over age 65 would be below the poverty line without SS benefits. SS benefits lifts 3 in 10 of those over age 65 – 15 million – out of poverty. 1 in 10 remain in poverty after receiving their SS benefits.

 

== SS is a lower percentage for you ==

 

Your SS benefit is a lot less than half of your past average pay. It’s probably closer to 30% of your past average pay – and after taxes it’s likely less than that.

 

 

Reason #1: The math of calculating SS benefits tilts toward those with lower past wages. The math to calculate your benefit weights historical past wages in three tiers. For someone who chooses to start SS in 2023, the first ~$13,000 of income has the same weight in the calculation of benefits as does the last ~$80,000 of income. (The maximum subject to SS tax in 2023 is $160,200.)

 

 

A person with $66,000 average past earnings who starts SS in 2023 has earnings 41% of the $160,200 maximum subject to tax, but receives 64% of the maximum benefit for his or her age.

 

 

Reason #2: Taxes on SS benefits may knock off about 20% of the pre-tax benefit. For Patti and me, 85% of our SS benefits are subject to tax. The effect is that we pay nearly 20% of the benefit back as income tax. If our benefits were 31% of past average earnings as indicated in the graph above, the after-tax benefit is sliced to about 25%.

 

An IRS worksheet determines the percentage of SS benefits subject to tax. It’s not a straightforward calculation. I explained it here and provided a spreadsheet that helps to understand the calculation. Those with low SS benefits and low income other than SS pay no tax on their benefit. An increasing percentage is taxed until it reaches the maximum of 85%.

 

 

Conclusion: Younger folks need to save and invest for retirement. We retirees understand: Social Security alone won’t cut it. Social Security benefits may replace a third of a retiree’s income during their working years. This is not enough for the basic living expenses they’ve gotten used to. And they should want much more than just the basics to be happy in retirement: to pay for experiences they’ll enjoy; to help their family be happier and more successful; to help others.

I read three articles this week saying that we had really good news on inflation. See here, here, here. The market seemed to like this news the past several days. I updated a few of my charts that track inflation. My chart of seasonally adjusted inflation, the most widely reported measure of inflation, did not show that inflation was cooling. Inflation in June was greater than in May. The rate for the last 12-months declined, but we knew that was coming: this June replaced the very high June 22 rate, the highest monthly rate since March 1947.

 

 

What was good about the data released on Wednesday? Core Inflation clearly declined: that’s the Consumer Price Index less the volatile food and energy components. It’s been stubbornly high. June was the first big drop in 20 months – roughly 1/3^rd May; 1/4^th June 2022; and 1/3^rd the average of the prior 20 months. One month is clearly not enough for a trend, but the 0.16% increase is an annual rate of less than 2%.

 

Yes, we are in a bull market. The start of a bull market is generally defined as the point when the market is 20% higher than the previous low. Our previous low was mid-October 2002. We passed 20% higher some day in June. As of June 30, we were roughly 23% above the low. We were not at the previous high in January 2022. We have another 14% or improvement to get back to that point.

 

It’s important to keep track of progress: we may be on track to rebound much faster than average, which would be very good news. I pointed out in this post that it took an average of seven years for the market to consistently surpass a decline similar to the one we had in 2022.

 

== Digging deeper: here are the specifics ==

 

Inflation distorts our understanding, so I adjust the nominal measures of the market for inflation. I use the S&P 500 Total Return Index; that includes the effect of price and dividends reinvested.

 

The decline Jan 2, 2022 to October 12, 2022 was nearly 29%. The rebound to June 30 has been nearly 24%. We are 12% below Jan 2, 2022. We need about 14% improvement to get back to the Jan 2, 2022 level.

 

 

== 2022 vs 1969 ==

 

Since 2022 was so bad – the fifth worse one-year return for stocks in history – I want to compare it to the most harmful sequence of return in history for a retiree withdrawing from a portfolio each year for spending. That was the sequence that started January 1969.

 

 

It’s WAY too early to make a judgment on where the 2022 sequence is headed. The recovery so far this year is encouraging. (l always HATE to look at those stock returns in ’73 and ’74!)

 

 

Conclusion: We’re now in a bull market. The market crossed 20% above its prior low in June. We have to improve by 14% to get to the prior high at the start of 2022.