How to Beat Inflation

Compared with the 1970s and ‘80s, inflation, which in the UK jumped from 0.7% to 1.5% in April, and 2.1% in May is low but there are signs that globally it is rising. The Bank of England has forecast a rate of 2.5% by the end of the year, and in the USA, it is already 5%. In the short term, central bankers and Governments are relaxed about inflation and are unlikely to use the lever of higher interest rates to curb it soon.

Governments have borrowed unprecedented sums to combat the pandemic and shore up jobs and welfare payments, while hibernating their economies. As businesses reopen, inflation, stoked by pent up consumer demand, is a natural, if temporary, consequence. Consumer spending in May 2021 was up 7.6% compared to May 2019. *

The bigger question for investors is whether higher inflation will become a longer-term trend. While consumer demand may eventually ease, there are other factors which could see inflation baked into the medium-term outlook. These include: -

• Strong cost pressures in the supply chain, already evidenced in the construction and manufacturing sectors, where raw materials, energy and transportation costs are increasing1 Cost pressures are buoyed by a construction boom in home improvements and big infrastructure projects such as HS2.
•  Skilled labour shortages in some sectors which could lead to increased wage demands.¹
• House price inflation of 10.2% to March 2021, the biggest annual increase since August 2007.²
•  Governments and central banks have also eased the money supply by printing money to fund the crisis measures. Higher inflation for a period could suit the Treasury’s policy objectives, inflating away Government borrowing and leading to increased tax revenue against the backdrop of frozen allowances for personal taxes.

As anyone investing in the 1970s and 80s knows, and more recent experiences in Zimbabwe and Venezuela tell us, moderate inflation can soon get out of control and wreak havoc on savings and fixed incomes ³.

Inflation Proofing Long Term Savings

Longer term savings are most at risk from inflation and so need to be invested in ways which are less affected by it, or even benefit from rising prices. For those able to take a medium to high level of risk this includes: -

• Investing in shares which offer inflation protection from businesses which can pass on price rises to customers or have an inbuilt inflation adjusted pricing mechanism such as the energy, transport, and infrastructure sectors.
• Investing in commodities where increased demand is likely to result in price increases.

Not everyone will have the risk  appetite for investing in shares or commodities, which can go down in value as well as up, but those with less risk appetite can still take steps to reduce the worst effects of rising inflation on the value of their investments. Currently 75% of Individual Savings Account investments are in cash which gives no protection against inflation.⁴ At 2.5% pa inflation each £100 invested will only buy £78 worth of goods and services after 10 years.

Lower risk alternatives include: -

• Short term gilts and corporate bonds which tend to be less sensitive to the effects of inflation.
•  Index linked bonds where the return is inflation linked.
• Higher yield bonds, where there is more risk to capital, but where higher yields may compensate for inflation.
• Index Linked Savings Certificates issued by NS&I are no longer on sale to new investors.  Existing holders can renew their certificates at maturity and continue to enjoy tax free consumer price inflation (CPI) proofing for a further period of 2,3 or 5 years.
• If close to State pension age, but with a shortfall in National Insurance contributions to get the full State pension, buying additional years contributions could be worthwhile. Each credit buys £266.83 per year of State pension (1/35^th of the current state pension which one year’s NI contribution buys), which is guaranteed to be increased by the higher of 2.5%, CPI inflation or the increase in national average wages.
• While cash savings are the least able to beat inflation, getting a better interest rate may go some way to compensating for it. A Cash Management service makes shopping around for a better rate easy. Get in touch to find out more about a service we can provide.

Factoring in inflation is a feature of our financial planning service, so that plans made can be resilient against a rising cost of living, with suitable investments selected to counter it. To safeguard your future standard of living you can contact your usual Aspira adviser, use our live chat facility, email info@aspirafp.co.uk or call 01454 632495.

*Office of National Statistics Consumer Trends March 2021

¹. Confederation of British Industry member survey April 2021 and Purchase Managers Index for the Construction and Manufacturing Sectors – HIS Markit April 2021

². Office of National Statistics UK House Price Index March 2021

³. The 20 countries with the highest inflation rate in 2020, Statista.com, April 2021

⁴. Individual Savings Account Statistics HMRC June 2021

The information contained in this article is based on the opinion of the author and does not constitute financial advice or a recommendation to any investment strategy, you should seek independent financial advice before embarking on any course of action.

Equity investments do not afford the same capital security as deposit accounts.

When investing your capital is at risk

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