How inflation may force millennials to reconsider risk

Originally published on Marketwatch.com http://www.marketwatch.com/story/how-inflation-may-force-millennials-to-reconsider-risk-2014-12-02?dist=afterbell

Millennials are people born after 1980. I’ve seen sources that give differing dates, but I think being born between about 1980 and 2000 qualifies you as a millennial.

Pew Research has done some interesting polling and found that millennials grew up with technology, like video games, send lots of text messages and tend to get married later. They also put off homeownership until later in life and are more likely to live in a city than their parents who sought refuge from urban life in suburbia.

One reason they may be somewhat averse to homeownership is because they lived through a long downturn in the housing market. If you bought an average priced house on April 1, 2006 it would have cost $257,000. On Oct. 1, 2010, it would have been worth $204,200 for a decline of $52,800, a drop of over 20% after holding more than four years. By Sept. 1, 2014, your house would have been valued at $259,000 and you would have had a whopping gain of $2,000 or just over 0.75% after holding your house over eight years. That is a hypothetical illustration based on the national average home price and doesn’t include costs like taxes, insurance, maintenance and financing.

Millennials also have a bit of a reluctance when it comes to investing in stocks and who can blame them? They’ve lived through two serious market declines. From Aug. 1, 2000 until Sept. 3, 2002, the Standard & Poor’s 500 Index SPX, +0.45%   dropped over 40% and took over six years to get back to even. From Oct. 1, 2007 to Feb. 2, 2009 the S&P 500 index dropped over 50% and took almost four and half years to recover.

It seems like millennials have learned some real life lessons about risk and there’s nothing wrong with being risk averse, right?

Well, one type of risk they haven’t experienced is inflation risk. The last time we saw double-digit inflation in this country was back in 1980-1981, when the millennials were just being born. Since that episode of inflation, prices have been relatively tame. In the decade of the 1990s, inflation averaged just over 3%. The decade of the 2000s was even lower with the CPI averaging about 2.5%. You don’t have to get a very good return on your investments to keep up with inflation when it is low.

When inflation is high the purchasing power of your dollar will erode and you need to have investments that keep pace with inflation. Millennials tendency toward risk aversion may be exposing them to a risk they’re unprepared for — inflation risk.