The Bogleheads' Guide to Investing, 2nd Edition

Chapter Five Preserve Your Buying Power with Inflation-Protected Bonds

Control your destiny or somebody else will.

—Jack Welch

Inflation is like a silent thief in the night that comes, sight unseen, and steals our valuables. Unlike the burglar who takes our visible assets, inflation is much more insidious because it steals something that we can’t really see—our future buying power.

If we were to start with $1,000 and end up with $1,000 10 years later, some investors would say they hadn’t lost anything. They couldn’t be more wrong! The $1,000 is merely an exchange medium, and its only value is the amount of goods or services that someone will give us in exchange for that $1,000. So what’s really important is not the dollar amount, but rather its purchasing power, or what it will buy.

Inflation erodes the future spending power of our present dollars, so we’ll need more dollars at some future date to purchase the same amount of goods and services in order to offset the effects of that inflation.

In Chapter 2, we learned how the power of compounding works for us. However, that same power of compounding works against us when it comes to inflation. An inflation rate of 3 percent means that when a 25-year-old investor retires in 40 years, she’ll need $3,262 to buy the same basket of goods and services that she can buy for $1,000 today. If inflation were 4 percent over that same period, she’d need $4,801. Of course, if inflation were still higher, it follows that the amount needed ...