THE STOCK MARKET this year reminds me of one of those Rorschach inkblot tests. The broad U.S. market has gained more than 4%, including dividends, but it's difficult to know what to make of it. Bulls point to this year's tax cuts and believe that the market’s gain makes complete sense. Bears, on the other hand, note that the market has quadrupled in less than 10 years and conclude that it's at an unsustainably high level. In other words, it's very much in the eye of the beholder. At times like this, we can be susceptible to biases in how we think—and that can impact how we respond. Below are three common investor biases, along with some recommendations for how to manage them: Availability Bias. The internet today gives us access to thousands of economic statistics and market indicators. But no one—even a fulltime investor—has the time to sift through all this data. As a result, we tend to rely on the information that’s most readily available or that comes to mind most easily. While the information might be correct, the danger is that it’s also incomplete. Recently, for example, when the government announced that unemployment had hit a multi-decade low, The New York Times reported, “The current economic expansion is already one of the longest on record, and there is no sign that it is losing steam.” CNN put it in these enthusiastic terms: “The last time the roaring American jobs market was this strong, astronauts were still going to the moon.” But on the same day, the Tampa Bay Times ran an article headlined, “As corporate debt rises, so do worries about it triggering the next recession,” and cautioned that, “By some measures, companies have more debt than at any time in history….” Depending upon which of these stories happened to cross your desk, you might reach very different conclusions about the economy’s health. That’s availability bias. Confirmation Bias. A close cousin of availability bias, confirmation bias occurs when you already have a point of view on an issue and then place disproportionate weight on data that supports that existing view, while downplaying data that doesn’t support it. Today, market bulls would cite record high corporate profits, while bears would point to market valuations that are, by some measures, at near-record levels. Both facts are accurate—and yet, thanks to confirmation bias, people on both sides of the debate will find their views reinforced. Recency Bias. In New York yesterday, it was 60 degrees. If I asked you to forecast how hot it’ll get today, you would probably make a guess somewhere in the neighborhood of 60 degrees, and that would probably end up being about right. In many realms, it makes sense to extrapolate from recent data and assume that current trends will continue. When it comes to the economy and the stock market, however, that doesn’t work. In fact, there's an old joke that economists have predicted 15 of the last 10 recessions. Despite our best efforts, no one can reliably predict when the next bump in the road will come or what it will look like. Investing, I believe, requires a constant balancing act. Yes, you want to be aware of where the economy stands and what the market is doing. But you also want to work hard to avoid letting biases cloud your view. On top of that, you want to keep in mind that all the data in the world still present a picture that’s incomplete. As the investor and author Howard Marks notes, “much of risk is subjective, hidden and unquantifiable.” The bottom line: I believe that the most productive step you can take at this point, while the market is still near its all-time high, is to check and recheck your asset allocation. Even if you have a view on the way things will turn out, make sure you'll be okay if it goes the other way. Adam M. Grossman’s previous articles include Stepping Back, When to Roth, Not for You and Off Target. Adam is the founder of Mayport Wealth Management, a fixed-fee financial planning firm in Boston. He’s an advocate of evidence-based investing and is on a mission to lower the cost of investment advice for consumers. Follow Adam on Twitter @AdamMGrossman. [xyz-ihs snippet="Donate"]

ONE SPRING DAY in 1995, McArthur Wheeler walked into two banks near his Pittsburgh home and robbed them at gunpoint. His plan had one critical flaw: The disguise he chose didn't hide his face at all. Instead of the usual stocking cap or hat and sunglasses, Wheeler made an unconventional choice. He applied a coating of lemon juice to his face. His reasoning: Lemon juice could be used to make invisible ink, so Wheeler figured it would have the same effect on his face, making it invisible to surveillance cameras. Because he was so easily identified, Wheeler was arrested just hours later. As police led him away, Wheeler sighed in disbelief. “But I wore the juice,” he said. Wheeler's case is so famously absurd that it was later featured in an academic article, Unskilled and Unaware of It, by David Dunning and Justin Kruger. Their insight: People are often poor judges of their own competence. Worse still, we often get it exactly wrong. Incompetent people think they’re more competent than they actually are, while highly competent people tend to underestimate their skill. While McArthur Wheeler is in a class by himself, Dunning and Kruger's research carries an important message for the rest of us: Overconfidence can be a big problem, especially when it comes to the world of investments, where there’s as much noise as there is data and where there's a strong temptation to predict what will happen next. After all, the hard part about financial planning isn't the math, but rather the uncertainty. What can you do to navigate this uncertainty? Here are three suggestions: 1. Stay the course. At its core, financial planning is simple: You have a set of financial goals, and you want to be sure you're saving enough to reach those goals. But with the stock market's regular ups and downs, it's easy to get distracted. In fact, there are people whose job it is to distract you. From TV to newspapers to social media, Wall Street “strategists” are all around us, dissecting and pontificating on the latest financial news. Last week, they were talking about interest rates. This week, they're talking about China. Next week, they'll be on to some new topic. My advice: Tune them out. Remember that those strategists work for brokerage firms, and their goal is to get you to tinker with your portfolio, which generates trading commissions for them. Instead, you want to act like a racehorse wearing blinders. Focus straight ahead on your financial goals, and never let the sideshow of the week distract you from your plan. 2. Avoid big bets. In promoting index funds, the late Jack Bogle, founder of Vanguard Group, often talked about “the relentless rules of humble arithmetic.” Indexing worked, he said, because it kept costs low. I completely agree with that. But that's not the only reason indexing has produced better results than active management. Another advantage: Active managers can make risky, outsized bets in ways that index funds cannot. A case in point is former star fund manager Bill Miller, whose flagship fund once beat the S&P 500 for an astounding 15 years in a row. During the 2008 financial crisis, however, Miller badly miscalculated. He thought people were overreacting and that the crisis would soon pass. This led him to double down on the stocks of AIG, Bear Stearns and other financial firms that lost nearly all their value. His fund was decimated and Miller was soon out of a job. When you invest in a broadly diversified index fund, you avoid that risk. While you give up the opportunity to outperform the index, you are simultaneously buying yourself the peace of mind that you won't dramatically underperform when a fund manager's overconfidence gets the better of him or her. 3. Plan for a different tomorrow. As human beings, we have a limited ability to process data, and that biases the way we think about things. In particular, a phenomenon called recency bias leads us to place disproportionate weight on recent events and to discount events that happened longer ago. The result is that we generally assume things will continue tomorrow the way they've been going today and don't consider the possibility of extreme change. This is a problem because, of course, things do change—another reason it's important to avoid overconfidence. In recent years, the stock market has delivered steady positive gains while interest rates, inflation and tax rates have all been near historic lows. While that's all been very positive, it can and probably will change at some point. That's why I always recommend considering, and planning for, a variety of scenarios other than the status quo. You can't prepare for everything. But as you formulate your financial plan, it's worth considering a tomorrow that looks a good bit different from today. Adam M. Grossman’s previous articles include Beat the Street, After the Windfall and Out of Bounds. Adam is the founder of Mayport Wealth Management, a fixed-fee financial planning firm in Boston. He’s an advocate of evidence-based investing and is on a mission to lower the cost of investment advice for consumers. Follow Adam on Twitter @AdamMGrossman. [xyz-ihs snippet="Donate"]

WHAT’S THE FIRST RULE of personal finance? To answer this question, let’s look at the financial lives of two notable individuals, starting with musician MC Hammer. When Hammer gained fame in the 1980s, he made millions. But unfortunately, his spending quickly outpaced his income. Hammer bought 19 racehorses, employed a personal staff of 200 and built a $30 million house with a 17-car garage. The result, sadly, was bankruptcy. If MC Hammer represents one extreme of financial management, a fellow named Ronald Read represents the other. Read, who died in 2014, was a model of frugality. He used clothes pins to hold his coat closed when the buttons fell off, and he’d park his car several blocks outside of town to avoid parking meters. Read’s appearance was so modest that one day a stranger paid for his coffee, believing it to be an act of charity. But when Read died, those who knew him were shocked to learn the result of all of his extreme frugality. He’d amassed a fortune of $8 million. Hammer’s and Read’s stories couldn’t be more different. But they do share one thing in common: They both represent extremes. And while no one can know for sure, my sense is that they each would’ve been happier if they hadn’t taken things quite so far. That brings us back to the first rule in personal finance. In my opinion, the most important thing is to approach everything with a mindset of moderation. Here are nine areas in which I see a moderate approach as being the right approach: 1. Diversifying your stock holdings. Suppose you’re building a portfolio. How should you structure it? The late Jack Bogle, founder of Vanguard Group, often noted that his personal portfolio never included any international exposure. Domestic stocks, he felt, were perfectly sufficient. Meanwhile, today, Vanguard recommends allocating a hefty 40% of a stock portfolio to international stocks. Which is the right approach? There’s endless debate on this topic, in large part because there’s no single right answer. On the one hand, international markets lack much of the innovation and dynamism of their U.S. peers. But there is also value in diversification. In my view, then, a good solution is to split the difference. You might consider allocating 10%, 20% or 30% to international stocks. 2. Diversifying your bond holdings. Last year delivered an unwelcome wake-up call to bond investors, with total bond market index funds losing about 13% of their value. Funds holding only short-term bonds, however, fared much better, losing less than 5%. Does that mean investors should hold only short-term bonds? That might seem like the prudent course. But it would overlook the longer-term performance of these funds. Since 2010, total bond market funds have returned about 30%, while Vanguard’s short-term Treasury bond fund (symbol: VGSH) has returned just 12%. A reasonable approach, then, might be to lean heavily on short-term funds, but still hold some intermediate-term funds. It need not be all-or-nothing. 3. Individual bonds vs. funds. Another debate in the world of bonds is how best to access the bond market. Should you buy funds or purchase individual bonds? Each has its merits. Funds are easier to buy and sell, and they offer built-in diversification. Individual bonds, on the other hand, make it easier for investors to know precisely what yield they’ll earn until maturity, assuming the issuers involved don’t default. Which way should you go? I see no need to choose just one or the other. Purchase some of each. 4. Roth conversions. Suppose you do the math and determine that a Roth conversion would be of debatable value. You could table the idea, and that might seem reasonable. But whenever we do calculations, it’s important to keep in mind that things might turn out differently. Suppose your portfolio grew faster than expected, or suppose Congress lifted tax rates. Then the Roth argument might become stronger. What should you do? In cases like this, a reasonable approach might be to proceed with a conversion, but a modest one—perhaps to the top of your current tax bracket. With that approach, you’d benefit whichever way things turn out. 5. Family gifting. As you may know, estate tax rules provide what’s known as a lifetime exclusion on gifts to others. Today, that number is $12.9 million per person, but in 2026 that’s scheduled to be cut in half. Even that might still seem like a big number. But remember that Congress can change these rules at any time. The estate tax is a political football, and the rules that matter most are the rules that happen to be in place in the year you die. What to do? There are several easy steps you could take without going to an extreme. A few weeks back, I outlined some of these strategies. 6. Selling a winning stock. Suppose you’ve been lucky with a stock like Apple or Tesla. That would be great. But if that stock now represents too large a portion of your holdings, it might also pose a risk. Let’s say one stock accounts for 30% of your portfolio. If you sell it all, it could generate an enormous tax bill. But it need not be an all-or-nothing decision. Instead, a moderate approach would be to set a target for reducing your exposure to that stock—down to perhaps 5% or 10% of your portfolio. You might then move toward that target over time, thus spreading out the tax bill. 7. Selling a losing stock. Suppose you find yourself with the opposite problem: an investment in your taxable account that’s now at a loss. You could sell it, benefiting from the tax loss, and simply move on. But that might carry a different type of risk: If the stock recovers after you sell it, it wouldn’t affect you financially, but the feeling of regret could be unpleasant. The solution: Just as with a winning stock, you might sell it incrementally. 8. How to buy. Another frequent debate among investors is whether to invest money via dollar-cost averaging or to simply invest any available cash all at once. The challenge, of course, is that you can’t know in advance whether the market will go up or down in the short term. A solution you might consider: Split the difference. If you have a large sum to invest, put half of it to work immediately, and then invest the rest over a period of months. 9. Social Security. Even though Social Security can be claimed as early as 62, I generally recommend that folks wait until 70, when their benefit would be the largest. But because of all the years of forgone payments, it can take several years to break even. Some people simply don’t want to take that risk. That’s why a popular solution, if you’re married, is for one spouse to wait till 70 while the other claims earlier. What if you’re single? You could split the difference by simply picking a year somewhere between 62 and 70 to claim your benefit. There’s no need to go to one extreme or the other. Adam M. Grossman is the founder of Mayport, a fixed-fee wealth management firm. Sign up for Adam's Daily Ideas email, follow him on Twitter @AdamMGrossman and check out his earlier articles. [xyz-ihs snippet="Donate"]

IT’S GRADUATION season. Entering the workforce? Here are five steps to help you jumpstart your financial life: 1. Manage your debt. If you’re like many graduates, you have student loans. Depending on how much you owe, you may be wondering how best to allocate your new paycheck. Should you direct every available dollar toward your loans or does it also make sense to begin saving? While everyone’s situation is unique, I have two suggestions. First, take the time to understand your student loans. Don’t just pay the amount shown on your statements. Instead, consider the rate and balance on each one, and then design a strategy to maximize the benefit of each payment. You might also consider refinancing with a private lender. But before you do that, I’d learn about the federal government’s income-driven repayment plans. If this all sounds like a root canal, you could hire a student loan consultant, who will review your statements and show you exactly what to do. These consultants don’t charge a lot and could end up saving you quite a bit. Second, don’t put savings on hold. Even though your debt load may feel overwhelming—and it may be at rates higher than you could earn on your savings—it’s important to build a cash cushion. This will give you financial flexibility and allow you to think longer term. It’ll also help you avoid turning to high interest rate loans, if you ever find yourself in a pinch. Most important, it will get you in the habit of living on less than you earn. More broadly, try to avoid putting your life on hold because of your student debt. This is an increasingly common phenomenon. Instead, by making a plan, you’ll be able to sleep better at night and move forward with your life. 2. Consider total compensation. When choosing where to work, look beyond the salary. Yes, your pay rate is important, but many employers also offer valuable benefits. In particular, when considering job offers, look closely at each employer’s retirement plan. Do they offer a traditional pension? If not, what does their 401(k) or 403(b) look like? Do they match contributions? If so, at what rate and how quickly does the money vest? If you’re going to work for a public company, will you receive stock options or restricted stock units? What other benefits are available—graduate school tuition, for example? And what does the company’s health plan look like? All of these could make an enormous difference, so be sure to choose a job based on total compensation, not just the salary. 3. Learn to work. One of the odd things about school is that they never teach you much about how to work. Rarely does anyone show you how to succeed in the workplace. There are lots of theories on productivity, and I don’t necessarily endorse one over the other. Rather, I suggest reading widely to discover an approach that works best for you. The following four books are a useful starting point, even though they don't always agree with one another: Grit by Angela Duckworth, Outliers by Malcolm Gladwell, Range by David Epstein and Atomic Habits by James Clear. If you don’t have time for an entire book, then I suggest one article, "Smarter, Not Harder" by Shane Parrish. 4. Know when to exit. Fifty years ago, the economist Albert Hirschman penned a small book titled Exit, Voice, and Loyalty. The central idea is that we all have three choices when an organization isn’t meeting our needs: We can leave (exit), speak up (voice) or stick around with our heads down (loyalty). While Hirschman’s book is somewhat academic, you can find similar concepts—in a much more colorful format—in Robert Sutton’s The Asshole Survival Guide. The reality is, every workplace will be infected with some number of managers who are truly poisonous—yelling, swearing, insulting, throwing things, fostering internal competition—and you’ll have to decide whether to hang around or exit stage left. 5. Avoid “advisors.” At some point, one of your classmates will find his or her way into the insurance industry. And one day, that person will find his or her way to your doorstep. He or she will explain to you how it’s in your best interest to buy something called whole or variable or universal life insurance. My advice: Run, don’t walk, in the other direction. In my work as a financial planner, I have seen innumerable people saddled with policies that provide too little coverage for too much money. In all but the rarest cases, I don’t think anyone should ever buy one of these products. According to one well-known financial blogger, upwards of 75% of people who buy these policies end up regretting the decision. If you need life insurance, in the vast majority of cases, you'll be better off with simple, low-cost term coverage. Adam M. Grossman’s previous articles include Math vs. Emotion, Don't Bank on It and Danger Ahead. Adam is the founder of Mayport Wealth Management, a fixed-fee financial planning firm in Boston. He’s an advocate of evidence-based investing and is on a mission to lower the cost of investment advice for consumers. Follow Adam on Twitter @AdamMGrossman. [xyz-ihs snippet="Donate"]

LONG-TERM-CARE insurance policies are, in my opinion, both a blessing and a curse. They're a blessing because they can help cover critical and costly care when a family might have no other financial options. But they can also feel like a curse. That's because of what many owners of traditional long-term-care (LTC) insurance refer to as “the letter.” This is the renewal letter that policyholders receive each year. These letters provide a menu of renewal options, each of which offers some combination of premium increases and benefit cuts. But unlike most insurance policies, which might impose a modest or at least manageable increase each year, it isn’t uncommon to see LTC premiums jump by 10%, 20% or more—sometimes much more. As a result, the options in these letters generally range from unpalatable to unaffordable to downright depressing, plus the decision is often complicated. These letters frequently present a matrix of choices, with options along multiple dimensions, including: Cost Maximum daily benefit Inflation benefit Elimination period Benefit period Total lifetime benefit Cash payment to policyholder Because there are so many variables, the renewal decision defies straightforward cost-benefit analysis, making it an agonizing annual dilemma for policyholders. If you or a family member has one of these policies, how should you approach the decision? Before getting into the details, it’s important first to understand some background—in other words, why these letters are even necessary. The fundamental problem in the LTC market isn't difficult to grasp: When insurers created these products, they miscalculated and priced them far too low. There were three reasons for this: Health care costs have increased much faster than expected. Over the past 20 years, health care inflation has outpaced the overall inflation rate by almost 1½ percentage points a year. Compounded over time, the result has been a steep increase in the size of claims. Policyholders held on to policies much longer than expected. With a product like long-term-care insurance, the most profitable customer is the one who pays premiums for a period of years but then cancels before ever making a claim. LTC customers, however, didn’t cancel at nearly the expected rate. Genworth, the largest player in LTC coverage, expected a lapse rate around 5%. But the actual rate has been an order of magnitude lower—just 0.7%. Interest rates have been much lower than expected. Since insurance companies invest a large part of the premiums they receive in bonds, this has been an increasing problem. In fact, the timing couldn’t have been worse. Interest rates have been falling since the early 1980s, which is precisely when LTC policies started to become popular. More than any other kind of coverage, this has been a problem for LTC insurers because these policies are intended to be lifetime commitments, and yet the longest-term bond is just 30 years. Insurers weren’t able to fully protect themselves by matching assets and liabilities, as they normally do. This has spurred some insurers to offer a different type of LTC insurance—known as hybrid policies—which haven’t had these pricing problems. Indeed, traditional LTC insurance has been a disaster for insurers. Genworth alone has incurred billions in losses on its LTC business. Losses there have averaged $425 million per year in recent years. To stop the bleeding, insurers are doing everything they can to fix the pricing on these policies. That explains the frequently brutal renewal terms. [xyz-ihs snippet="Mobile-Subscribe"] As a consumer, if you’re on the receiving end of a renewal letter, how should you approach the decision? Here are three recommendations: Hold the line on benefits. All things being equal, a cut to benefits is more profitable to an insurer than an increase in premiums. That’s because claims can come in at any time, while premium increases are received only incrementally over time. Result: An insurer would much rather you accepted a reduction in benefits. As a consumer, then, this should be the last thing you do. If you can afford it, pay to retain your policy’s current maximum daily benefit. Take it one year at a time. Many renewal letters will include language along the lines of: “Please be aware that over the next X years, we intend to seek additional rate increases...” and they’ll often include a staggeringly high number. The operative words here are “intend to seek.” The reality is that rate increases must be approved by each state’s commissioner of insurance—and they don’t approve every increase that’s requested. The job of insurance regulators is to achieve a delicate balance: They want to protect consumers from rising rates. But if they squeeze insurers too much, they'll become insolvent. The rate increases that your insurer seeks may not fully materialize, so don’t let the prospect of future increases scare you into dropping your policy. Instead, take it year by year. Read between the lines. Some letters will offer buyouts—literally paying a policyholder to cancel coverage or reduce benefits to a level that’s akin to canceling. I once saw a renewal letter that proposed cutting the total lifetime benefit of a policy to less than $5,000 in exchange for an upfront payment to the policyholder. It was an absurd option, but it was also very telling. If your insurance company’s actuaries are so eager to have you cancel, that likely means you’re getting the better end of the deal. The logical conclusion: In cases like this, you're better off not accepting a buyout. If you can afford to keep up with the premiums, stick with it. The key thing to understand here is that insurance companies have, in effect, been providing subsidies for years to LTC policyholders. And the fact that insurers are still taking losses on these policies tells you that these subsidies haven’t fully gone away. That’s thanks to regulators, who have been keeping a lid on price increases. If you’re a policyholder on the receiving end of a renewal letter, the increases probably seem jarring—and they are. But as aggravating as these increases are, the fact that insurers are still taking losses tells you that, as a policyholder, you’re still getting the better end of the bargain. Adam M. Grossman is the founder of Mayport, a fixed-fee wealth management firm. Sign up for Adam's Daily Ideas email, follow him on Twitter @AdamMGrossman and check out his earlier articles. [xyz-ihs snippet="Donate"]

IN THE INVESTMENT world, inflation is the topic of the day. There are four key reasons: Congress. Since March 2020, the federal government has dropped more than a trillion dollars of cash into the economy via stimulus checks and the Paycheck Protection Program. While many of the recipients were unemployed and needed these dollars to meet basic needs, others were not. The result: More money in people’s pockets allowed them to spend more, pushing up prices for many products. Many of these stimulus dollars also found their way into the stock market, which has helped lift share prices. This newly created wealth, in turn, has helped drive up prices for some big-ticket items, including houses. The Fed. Last year, the Federal Reserve announced a policy shift. Going forward, the central bank plans to put less emphasis on controlling inflation and more emphasis on maintaining full employment. The Fed will, in fact, permit inflation to run a little hotter than it might have in the past. In recent statements, Federal Reserve Chair Jerome Powell reiterated this stance, even as he acknowledged that super-low interest rates and a recovering economy are causing prices to rise. Fear. In recent years, inflation has been very low by historical standards—often below 2%. Still, it wasn’t all that long ago that inflation was north of 10%, contributing to the economic malaise of the 1970s. We’ve all read about the disastrous effects of high inflation in other countries. When Congress recently approved plans to spend another trillion dollars on infrastructure and other initiatives, people started worrying more. Expectations. Since the pandemic began, the Federal Reserve has held its federal funds rate near zero and has communicated that it plans to leave it at that level for at least a few more years. What do interest rates have to do with inflation? Implicit in the Fed’s position is the belief that the economy will remain weak enough to require the support of continued low interest rates. By extension, if the economy is weak, inflation should also remain low. That’s the Fed’s view. But investors seem to disagree. From a low around 0.5% last summer, the rate on 10-year Treasury notes climbed above 1.7% in recent weeks and ended Friday at 1.59%. When market interest rates jump like this, it’s an indirect sign that investors see inflation coming. In other words, investors aren’t buying the Fed’s assertion that inflation will remain low in the coming years. If there’s reason to believe that higher inflation might be on its way, how can you protect your portfolio? Below I’ll describe how inflation normally affects three key asset classes: bonds, stocks and gold. Bonds. Because most bonds make fixed interest payments, they’re a poor investment when inflation starts rising. The only exceptions are floating-rate bonds, which are somewhat rare, and a few flavors of U.S. government bonds, including Treasury Inflation-Protected Securities (TIPS), which I recommend. TIPS are directly tied to the consumer price index. This guarantees that their interest payments will keep up with inflation. How exactly do TIPS work? Twice a year, the government adjusts the price of TIPS bonds. When inflation is higher, it marks the price up. Interest payments are then recalculated using the bond’s new, higher price. But TIPS aren’t an entirely free lunch. When there's deflation, the government marks down the price of TIPS bonds, resulting in lower interest payments. Upon maturity, however, holders never get less than a bond's original principal value. [xyz-ihs snippet="Mobile-Subscribe"] When you buy a TIPS bond, there is an inflation rate implied—often called the “breakeven rate.” Today, that breakeven rate is around 2.3%. If inflation turns out to be higher down the road, you’ll do better with TIPS than with regular Treasury bonds. On the other hand, if inflation is lower, you’ll be worse off. That’s why I recommend diversifying, holding both standard and inflation-protected bonds. If you own a total bond market fund, it’s important to know that these funds don’t include TIPS. They include only standard Treasury bonds. If you own only a total market fund, I would supplement it with a separate TIPS holding. Stocks. These are much more resilient when inflation strikes. To understand why, consider this thought experiment: Suppose you’re the chief executive of an auto manufacturer. In ordinary times, it costs you $20,000 to make each car. You then add on 50% for the company's profit and sell them for $30,000. If you sell a million cars a year and earn $10,000 on each, your total company profits will be $10 billion. Now suppose inflation hits, and suddenly your costs rise by 25%. Instead of $20,000, it costs you $25,000 to build each car. To maintain the same profit margin, you tack on 50% and sell each one for $37,500. If you still sell a million cars, but your profit margin is now $12,500 per car, your total company profits will rise to $12.5 billion. That’s exactly 25% higher than your company’s profits were before inflation struck. And since—all else being equal—share prices follow corporate profits, your company’s stock price should also rise by 25%, right in line with inflation. This is a simplified example, but that’s the basic idea. As long as a company can raise its own prices to keep up with inflation, its stock price should keep up with inflation as well. To be sure, there are caveats. Some companies will find it harder to raise prices. But overall, stocks are, in my opinion, investors’ best protection against inflation. Gold. In the 1970s, when inflation was running high in the U.S., gold enjoyed a golden era, climbing from about $100 per ounce in 1976 to more than $700 in 1980. Ever since, gold has enjoyed a reputation as an ideal hedge against inflation. But unfortunately, it’s also been a poor long-term investment. Following that peak in 1980, gold dropped—and took 27 years to reclaim its prior high. On top of that, aside from that one period in the 1970s, gold has demonstrated very little correlation with inflation. As I’ve noted before, gold lacks intrinsic value, meaning that it doesn’t generate any income. That’s in contrast to other major types of assets. Many stocks produce dividends, bonds produce interest and real estate produces rent—but gold produces nothing. That’s why it shouldn’t be any surprise that its price meanders aimlessly over time, much like bitcoin, and for the same reason. Both are viewed as inflation hedges. But in both cases, I believe it's a mirage. Adam M. Grossman is the founder of Mayport, a fixed-fee wealth management firm. In his series of free e-books, he advocates an evidence-based approach to personal finance. Follow Adam on Twitter @AdamMGrossman and check out his earlier articles. [xyz-ihs snippet="Donate"]