As the pandemic recedes, inflation has come to the forefront of economic news. The inflation rate in the U.S. hit 8.3 percent in April 2022, the highest rate in decades, but not the highest rate we’ve ever experienced (29.78% in 1778, and 19.66% in 1917 is the highest since the introduction of the CPI). The net result of higher Inflation is increasing costs for businesses and consumers. It makes borrowing money more challenging and makes our everyday purchases more expensive.
In order to help combat inflation, the federal government is increasing interest rates (decreasing our money supply). However, it’s impossible to know how many rate increases will be required, how long this inflationary cycle will last, or how high inflation will be going forward.
Following are some ways to help prepare yourself for dealing with inflation.
Planning for Inflation
Evaluate Your Income Sources and Spending Habits
You may be able to count on certain income sources to keep up with inflation if they are indexed to inflation. For example, some pensions and Social Security benefits provide protection from rising costs. However, if your retirement savings are in a 401k, IRA, Roth IRA, or HSA, inflation will eat into your purchasing power.
If you are still building your retirement account, now is not generally the time to decrease your monthly investment. Instead, look to either increase revenue (a side gig?) or set up a budget to help decrease spending.
If, on the other hand, you are already retired and drawing down your retirement savings you may want to look into adjusting the amount you withdraw to cover the rising costs of inflation. If that is not an option, use a budget to decrease your monthly spending.
Review Your Investment Strategy
In inflationary times, some investments are better than others. The interest rates in savings accounts are generally rising, but do not usually keep up with inflation. This means the purchasing power of your money and therefore the value of your savings is going down, even though you’re still earning interest (maybe even higher interest). While the stock market can be volatile during times of inflation, equities can still offer long-term protection against inflation. The average return of the S&P 100 over the years is10 percent.
With that said value investments usually do better than growth stocks during periods of inflation, and dividends become a far more attractive option. Energy, industrials, some real estate stocks, commodities, and gold also have historically been safer during high inflationary periods.
Treasury Inflation-Protected Securities (TIPS) are another way to combat inflation. TIPS are government bonds that match the rise and fall of inflation. They can be part of your diversified equity or fixed-income portfolio.
Finally, ensure that your portfolio does remain well-diversified. Holding a mix of assets spread across many sectors will help minimize your risk. Rebalancing your portfolio will help maintain your diversification strategy over time.
Look at Your Time Horizon
If you have a longer period to invest, time is on your side. Inflation is generally cyclical, and you can afford to invest in riskier assets that promise higher returns. A long timeframe means you won’t need to cash in your investments to support you in the near future.
If you have a shorter time horizon, consider other strategies to hedge against rising costs. Inflation occurs when people are spending, and the economy is growing. Business earnings often grow faster, making them a potential hedge over time.
Take Some Inflation Preparation Steps Today
The good news is that you can do some things to mitigate inflation and its effect on your income. Our disciplined approach to investment management gives you the best chance of meeting your goals.