The instructions are very clear. If you want to boil a frog, you don't drop it into boiling water because it will immediately jump out.

Instead, we are to place the frog in a pot of cold water. Then we turn up the heat. The frog will be lulled to sleep by the rising temperature. It will expire quietly.

This, sadly, is the position of many people who retire with fixed pensions. Their retirements may start in great comfort--- but slowly 'cook' with inflation.

Fortunately, this problem can be solved with the simple purchase of iSavings Bonds. Let me show you how.

Suppose you are about to retire. You and your spouse will receive total Social Security benefits of $2,000 a month. You also have a corporate pension in the same amount. This means your retirement income will be $48,000 a year. You feel quite secure building your spending plans around that $4,000 monthly income. Everything is squared away.

At the end of the first year, your Social Security income rises by a bit less than inflation   (your Medicare premium went up). It's now $2,040 a month or $24,480 a year. Your pension stays at $24,000. That's a total of $48,480 a year.

Unfortunately, your cost of living has risen by 3 percent. It's now $49,440 a year. That means you're $960 short--- after only one year. When you start your third year, Social Security will bring in $24,970 and your pension will be the same old $24,000. But your cost of living will be $50,923.   Now you're $1,954 short.

By the fifth year your shortfall is $4,046. By the tenth year it's $9,947.   Your standard of living has fallen 16 percent. The table below shows the impact to 25 years the joint expectancy of a couple. Even with a modest inflation assumption of 3 percent a year--- far less than what many retirees' experience--- the bite on a fixed pension is painful by the tenth year. It's downright horrible by the 15th year.

  

The Slow Boiled Frog of Pension Retirement
This table shows impact of rising living costs on a retirement income that is based on a fixed pension and Social Security benefits
Year	Income-	Spending=	Shortfall	Living Standard Reduction in %
1st	$48,000	$48,000	$0	0%
2nd	$48,480	$48,940	$940	1.9%
3rd	$48,970	$50,923	$1,954	3.8%
5th	$49,978	$54,023	$4,046	7.5%
10th	$52,682	$62,629	$9,947	15.9%
15th	$55,667	$72,604	$16,937	23.3%
20th	$58,963	$84,168	$25,205	29.9%
25th	$62,602	$97,574	$34,972	35.8%
Source: Author calculations. Assumes 2% net increase in Social Security retirement benefits and 3% inflation rate.

  

That's where iBonds come in. These bonds can be purchased online or at financial institutions at no cost. They can also be purchased in denominations as small as $50. They currently yield 2.00 percent plus the rate of inflation. The entire return is tax deferred until the bonds are redeemed. While they will always provide a yield equal to the inflation rate, the 2.00 percent of "real" return is reset every six months for bonds purchased in each period. The next reset comes up in November. A couple can buy $60,000 a year of these securities.

Recently Treasury Inflation Protected Securities, a similar instrument, were providing a real yield of 1.71 percent for 5-year maturities and 2.44 percent for 10-year maturities.   These securities have the disadvantage that the entire return--- including the increase in principal to allow for inflation--- is currently taxable. So iBonds are convenient and competitive.

You can guarantee that your purchasing power remains constant simply by buying an iBond for each year you want to look ahead. Since you're earning a real return, you won't need to invest $1,000 today to provide $1,000 of real purchasing power in the future.  An even better way to make maximum use of these securities is to start buying them five or more years before retirement. (If you redeem iBonds before five years there is a penalty.)

Could you guarantee your purchasing power for the rest of your live?

Yes, but the longer you look ahead, the greater the odds an equity investment will bring a higher real return.

Want to learn more?