‘Reductio ad Absurdum’ Keeps Inflation Fears In Check

 A simple Latin concept may reduce clients’ anxiety over inflation, says this advisor.

If you turn on the television at any given time, you’re likely to see more disaster and catastrophe than the human mind was ever intended to process. Incredible acts of violence, devastating storms, disease, political division, and economic fallout come from it all — including the highest inflation in 40 years.

With so much bad news, it’s easy to understand why so many people suffer from anxiety and depression.

As advisors, understanding our clients’ emotions is vital to successfully helping them reach their goals. John Maynard Keynes once said, “The market can remain irrational longer than you can remain solvent.” I believe that to be a true statement, but I also believe that, like the market, human emotion can remain irrational longer than most problems can stick around.

As financial advisors, it is within our duties to be the voice of reason amidst the panic. People are much too prone to respond to the market emotionally. This is the same reason that you shouldn’t manage your own money. Despite being a Certified Financial Planner (CFP) professional, I have a CFP professional who manages my own investments. This is a safety mechanism that prevents me from deviating from the plan when things become tumultuous.

A Few Basic Indicators

As the U.S. economy continues to feel the effects of the worst inflationary trend in four decades, chances are good that you’re going to field more than a few questions about it. The closer to home that inflation hits, the more apt your clientele is to begin seeking ways to alleviate their stress. First, it’s important to help them understand how we got here.

Although today’s rapid inflationary rise is the result of multiple factors, one of the first signs we encountered was capacity constraints. As advisors, we understand this concept. However, a simple way of explaining it to your clients is having too much money chasing too few resources. We’ve recently seen this with several commodities. For example, my brother-in-law owns a pool business and he can’t get chlorine. The demand is too great and it’s causing shortages of chlorine. Other industries that have experienced capacity constraints include lumber and fuel.

In addition to the capacity constraints, we’ve experienced an unprecedented increase to the supply of money. Because money is in greater supply and financing has been cheap, housing prices are rising rapidly. We saw this take place just before the 2009 financial crisis, as well. People were buying land and building spec houses because it was so easy to get financing. This made it the hottest trend in the country. Unfortunately, people who should have never qualified for certain mortgage loans were getting them with ease.

At the same time, we’ve seen increasing deficits in the federal budget. In response to the COVID-19 closures, our federal government increased spending to unprecedented levels. Three different stimulus packages led to the printing of trillions of dollars without a means to truly back them up. This has led to trillions being added to our nation’s debt ceiling, and no concrete plan for how to balance the ever-increasing deficit. Combined, this perfect storm of inflationary indicators has led to our present economic state.

How Do You Help Clients Respond?

In January, the Consumer Price Index rose 7.5% on an annualized basis, following year-over-year increases of 7.0% in December 2021 and 6.8% in November — the highest figures seen since 1982. With numbers like these, we’re all feeling the sting. But as advisors, our clients look to us for answers. So, how do you help your clients respond to these trends?

First, you must remind them that things are never quite as bad as they seem. People tend to overreact to fear. To help them keep fear in check, use the concept known as “reductio ad absurdum.” It’s Latin for “reduction to absurdity.” By acknowledging their fear, yet taking their fear to the extreme, you can help clients keep a calm perspective in unprecedented times.

You don’t want them to overadjust to the blowing wind and find themselves miles off course when the storm passes. Money is an emotional subject for many people. However, as inflation makes things more and more uncomfortable, you may want to help them make minor adjustments to their investment portfolio.

I’ve recently met with several clients and I can tell you that their emotions run the gamut in response to how inflation is currently affecting them. Some clients have come to me ready to sell everything and “just be done with it.” Likewise, I’ve had a few that were fearful and believed this trend was going to continue in perpetuity. Of course, we know that neither of these is the appropriate response. In fact, some indicators show the supply-chain crisis is finally easing up. This could also be a sign that inflation may soon be coming back down, as well.

Be proactive in meeting with your clients and listening to them. Help them keep the reality of the situation in perspective and provide them with investment options that typically hold their own against inflation.

What About Clients Who are Nearing or in Retirement?

I understand the concerns and the fears, but the risk in retirement is different than the risk you face while planning for retirement. But although there have been five major stock market crashes of 30% or more since 1928, all outcomes made their way back above the principal, except the COVID-19 crash, which is still in recovery.

Just as with any client, the fear is often far worse than the reality. Reductio ad absurdum will tell them that the current inflationary trend will continue in perpetuity and their retirement savings will never hold up as a result. It’s important to hear their fears and concerns but help them make rational and data-driven decisions. As their advisor, you should show them the available data on the impact of inflation on their retirement plans. For now, temporary and minor changes to their spending habits should be enough to weather the storm.

However, it’s important for advisors to take the lead on monitoring the ongoing inflation situation and being proactive in alerting clients to actions they could be taking to protect their portfolios. If inflation stays stubbornly high, you may need to help clients make more significant adjustments so they can come through it as best as possible.

Utilize Easily Adjustable Positions

You know your clients’ individual situations. Therefore, you understand what advice is most beneficial to them. However, there are a few positions that I typically share with my own clients in times of increasing inflation. Whether your clients would benefit from them is something that should be reviewed on a case-by-case basis. With that said, here are a few easily adjustable positions that you might consider.

One of my favorite fixed-income assets during increased inflation is Treasury Inflation Protection Securities (TIPS). TIPS’ principal rises with inflation and decreases with deflation. Positions that are agile and able to quickly make pricing adjustments are your best options for times like these.

Another option is alternative assets that don’t generate cash flow but have great price adjustment capability. I’m talking about gold, antiques, art, cryptocurrencies, etc. I know this may seem counterintuitive; however, these commodities can perform quite well in times of increased inflation because they often grow in value. It’s possible that they could help a few of your clients during these times. Just make sure to really take a close look at their individual situation before making this suggestion.

Finally, you want to help your client find investments with cash flows that can grow as inflation increases. Real estate is a great example of this, and it’s an asset class that I love. Why? Because it’s a real property. Therefore, it can be used to create leverage. With the right situation, your client could buy into a large group of assets for a small amount of money.

What About Their Business?

If you’re advising business-owning clients (as I do), you must look at their business for what it truly is … their largest asset. This can create a challenge depending on the size and entity of their business. What may work for a small business doesn’t necessarily help a mid-sized or large business. Similarly, certain regulations and guidelines may limit what can be done depending on the entity the business was set up as. Your best course of action is to avoid the extremes — the reductio ad absurdum.

Hopefully, your client will have realized that they must adjust their pricing to meet their increasing cost of goods sold. However, this isn’t always immediately evident to them. Other times, they may have a system in place that just doesn’t work for this current situation. For example, if a dentist increases pricing by 5% each year, that’s fine in most years. But it doesn’t work if inflation is higher than 5%, as it is now. I experienced a similar scenario with one of my own clients.

I recently sat down with a client and asked her if she had considered changing her fees in the past nine months. She hadn’t given it any thought. But when we ran through her numbers, we discovered that she was paying more for the supplies she needed to operate her business. As a result, she was doing the same amount of work and making less money. Therefore, don’t be afraid to ask your clients the “obvious” questions. Often, simple solutions are overlooked because they seem so obvious.

Additionally, stockpiling cash could be helpful in some cases. But too much cash could be deadly. I typically advise my clients to keep enough cash to cover two to three months’ worth of business expenses in their accounts. Anything more than that could create problems such as lowering the return on assets or increasing the cost of capital. Instead, it could be better to direct your client to be a bit more targeted with their efforts. This may mean increasing prices on a more regular basis until things stabilize.

Wrapping Up …

We are in the midst of some uncertain times. Never before has our nation had to endure the type of civil unrest, political division, economic hardship and widespread disease that we’re seeing right now. At least, not all at the same time. Many of our clients see this uncertainty and it scares them. That’s a perfectly normal reaction.

However, it’s times like these that remind me of our biggest responsibility as advisors: Serving people. Take the time to listen to your clients. Hear their fears and concerns. Don’t dismiss them. Instead, validate their concerns but offer them hope. You see, fear removes hope from the equation and blurs reality. This too shall pass. Remind your clients of that and offer them a few of these practical pieces of advice to help them through.

Additional reading: Pandemic Lessons for Business Owners and You 

Wherever your clients may be in the emotional spectrum as it applies to inflation, chances are they’ve fallen victim to reductio ad absurdum. They need you to lend your expertise and reason to their perspective. When cooler heads prevail, progress can be made. Let’s go out and make it a great day!

Justin Goodbread, CFP, CEPA, CVGA, author and serial entrepreneur, is the founder and CEO of Heritage Investors, Heritage Business Advisors, and Financially Simple. He can be reached at 865-690-1155 or justin@financiallysimple.com.

 

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