Have you ever tried a Cardbury Milk Chocolate Bar? When I was school kid in London, this divinely luscious milk chocolate treat was the kingpin of all chocolate treats! I kid you not, there was not a single piece of candy born of milk and chocolate that could ever equal this delicious frog- shaped candy bar and you can argue with your elbows if you think otherwise. The greatest thing about this little delight was it costed $0.14. I was euphoric. However, I noticed that with every passing year, its price consecutively climbed by about ~$0.03. Now, I know what you’re thinking, two pence is hardly worthy of any quibble at all and one should just pay the dues and be on your merry way. But as a child (with desperately little pocket money) that two pence would reduce my purchasing power meaning I could buy less of anything else in the candy store before the school bell rang. Today (more than 20 years later), Freddo costs an eye-watering $0.33; a staggering 150% premium! How mortifying.
What is going above? The answer? Inflation. Inflation is the decrease in purchasing power of a specific currency over time. In other words, what you could purchase for a dollar (e.g., chocolate, Gatorade at the gas station) last year or years before, requires more than a dollar now. In the U.S, inflation is measured and illustrated by the Consumer Price Index (CPI), a term you will hear often on tv or in written publication.
CPI measures the weighted average of prices of a basket of goods over time. The changes in price of the basket of items are then used to measure the change in cost of living over time. The thing about inflation is its proclivity to become a self-fulfilling prophecy. So, what can anyone do? Here are some action items:
1. Reassess your monthly expenses: Ensure your spends are worthwhile. If you keep spending money on needless items, you will lose money faster. Take a moment to ask yourself- Do I really need to have all those cable channels? Well if that is you then try negotiating lower prices. The worst that can happen is you’ll get a “no”, there is no harm in asking. Streaming services, insurance premiums, cable bills, cell phone plans and gym memberships are classic examples of recurring costs that decrease your disposable income but can be replaced by cheaper alternatives or are negotiable, especially now when many people are locked down at home!
**Separately, do you have credit cards? make that call to get the APR down, no card company wants to lose you as a client! You might want to lose them altogether though. Use financial planning tools like Mint and Personal Capital which can help with managing your monthly expenses.
2. Save cash efficiently: Consider investing cash for short to intermediate-term liquidity needs or as a buffer in high-yield savings accounts (e.g., Marcus by Goldman Sachs, American Express High Yield Savings, or through your local bank/credit union). These accounts can help generate yield overtime and help mitigate the effects of inflation. Keep in mind that the interest income is taxed at your marginal income tax rates. Alternatives include municipal bond funds (Vanguard-Limited-Term Tax-Exempt Fund (VMLTX)) which can provide interest income that is tax-exempt but whose principal can be subject to loss in value given interest rate changes.
3. Invest: Build and/or stick to a disciplined investment strategy. If you do not have investments, use this opportunity to open a brokerage account or an Individual Retirement Account (IRA) to save for the long-term. An easy way to invest is to invest in exchange traded fund (ETF) and hold it for extended periods of time (i.e. years). Historically, this meant you would earn a positive return above inflation and it becomes more and more factual the further you go back in time. ETF’s are like buying a nice cold smoothie which contain lots of different fruits if you don’t want to buy a specific fruit (in other words, buy specific stocks).
If you do have these accounts established, remember to stick to a disciplined investment strategy, evaluate your exposures, and assess the implication of inflation on your assets. Are you well allocated to inflationary sensitive assets (i.e., assets that respond well in inflationary environments)? Inflation-Linked Bonds, Real Estate, Commodities, and equities tend to do well in inflation. Do not make any jarring decisions like putting all of your money in inflation-linked bonds. Remember, macro-economic conditions change. You should aim to create a portfolio that can withstand different macro-economic situations. However, it could be an opportune time to invest in these assets, if needed, to undermine the effects of inflation in your portfolio.
In summary, a little diligence, some vigilance, and planning will help reduce the effects of inflation on most aspects of your life.