Investing During Periods of Inflation
TRANSCRIPT:
What does inflation mean for your investments?
In August of 2020, the Fed announced that it is willing to allow inflation to run higher than normal in order to support the labor market and broader economy. This major policy shift allows inflation to run above the Fed's 2% goal for some time before the Fed would consider increasing short-term interest rates in an attempt to combat higher prices. These robust changes in the Fed's long standing inflation policy further illustrates the importance of understanding how inflation is reported and how it can affect your investments.
So what is inflation? Well, inflation is defined as an upward movement in the average level of prices. Each month, the Bureau of Labor Statistics releases a report called the Consumer Price Index or CPI, to track these fluctuations. It was developed from detailed expenditure information provided by families and individuals on purchases made in the following categories: food and beverages, housing, apparel, transportation, medical care, recreation, education, and communication, and other groups and services.
So knowing that, how applicable is the CPI?
Well, it's the commonly used indicator of inflation. The CPI has come under some recent scrutiny. For example, the CPI rose 1.4% for the 12 months ending January of this year, a relatively small increase. However, a closer look at the report shows movement in prices on a more detailed level. Used car and truck prices, for example, rose 10% during those same 12 months. As inflation rises and falls, three notable effects are observed.
First inflation reduces the real rate of return on investments. So if an investment earned 6% for a 12 month period and inflation averaged 1.5% over that time, the investments real rate of return would have been 4.5%. If taxes are considered, the real rate of return may be reduced even further.
Second inflation puts purchasing power at risk. When prices rise, a fixed amount of money has the power to purchase fewer and fewer goods.
And then third, inflation can influence the actions of the Federal Reserve. If the Fed wants to control inflation, it has a various methods for reducing the amount of money in circulation. Hypothetically, a smaller supply of money would lead to less spending, which may lead to lower prices and lower inflation.
If you are not currently working with a trusted financial professional, you may want to consider that as an option. When inflation is low, it's easy to overlook how rising prices are affecting a household budget. On the other hand, when inflation trends higher, it may be tempting to make more sweeping changes in response to increasing prices. The best approach may be to reach out to a financial professional, to help you develop an investment strategy that takes both possible scenarios into account.
Eric Hagen may be reached at 952-540-0153, Eric@InvestWithCCG.com. InvestWithCCG.com.
This material was prepared by MarketingPro, Inc., and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate. Please note - investing involves risk, and past performance is no guarantee of future results. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.
Citations
1. CNBC.com, August 27, 2020
2. Bureau of Labor Statistics, 2021
3. InflationData.com, 2021
4. This is a hypothetical example used for illustrative purposes only. It is not representative of any specific investment or combination of investments. Past performance does not guarantee future results.
2021-0900
