Many people are concerned that in the future, America may experience rapidly growing inflation. At Faulkner Financial Freedom, we never try to predict the future! Instead, we concentrate on being prepared. Being prepared makes us more prosperous and more financially resilient than those households who don’t bother to plan ahead.
Inflation is the condition that occurs when the value of your dollar drops, so the worth of the money in your wallet decreases. At the same time, the price of goods and services you must purchase rises in cost. There are many different inflation indexes, but the most commonly followed and often-quoted index tracking inflation is the Consumer Price Index (CPI). This index is produced by the Bureau of Labor Statistics (BLS) and tracks the price of preselected goods and services commonly purchased by consumers in various sectors of our economy, such as health care, education, housing, food, and energy. For example, the price of the preselected items in the CPI rose 0.5% in July, meaning the goods and services tracked in this index rose 0.5% in price and now cost you more.
Inflation is usually harmful to consumers because it increases the cost of nearly everything consumers must buy and use. Even though many of the assets you own may also increase in value along with inflation, it is generally your weekly income that has the hardest time keeping pace with continual price jumps.
As always, there are steps we can take to prepare our household finances for economy-wide inflation.
How to Prepare Your Household Budget for Possible/Future Inflation
• Don’t panic! Unexpected problems on the road to our goals are the norm. Have confidence in yourself that you will handle this problem just as you have so many others.
• Pay down debt to reduce your overall financial risk(s).
• Create a small, readily accessible emergency fund to help cover future budget shortfalls.
• One of your goals should be to create a long-term emergency fund to pay the bills for six months or more should you lose your job due to a slowing economy. You’ll want to have access to such a fund to pay your bills while you find a new job.
• Purchase household goods in bulk like paper towels, tissues, and other items you know you will need in the future that are likely to increase in price.
What to Do If/When inflation Strikes
• Increase your budget for food and gas while reducing less-essential items.
• Reduce your costs (costs per unit) by substituting cheaper items when grocery shopping.
• Be sure to comparison shop for all purchases to save money.
• Begin using coupons if this is something you don’t already do.
• Adjust your entertainment to include more social interaction, outdoor adventures, and less spending.
• Don’t abandon your goals; continue to make progress toward them. This, too, will pass.
Investing During Inflation
Now that we have covered our day-to-day household budgets, let’s discuss our investments. The answer to this problem is the same answer to most other investing problems you will encounter. The key strategy to combating inflation is to review your portfolio mix of stocks and bonds.
Many investment gurus will tell you to abandon bond-type investments during inflation. The problem is, bonds still serve the same purpose they did before the inflationary period hit. That purpose is to dampen stock price volatility and to act as the parachute against drastic, rapid drops in value. Whether you are a conservative investor or a more aggressive one, it is not wise to entirely abandon your emergency parachute during inflationary periods.
This being said, you can work on your individual investments within your bond category. Some bond-type investments do much better than others during inflationary periods, such as short-term bonds and Treasury Inflation-Protected Securities. There are also certain stocks that do better during inflationary periods.
The overall strategy is to reduce your financial risks by lowering debt and increasing your access to emergency financial resources to combat unforeseen problems. Look to refine, not abandon, your chosen portfolio mix within your bond and stock categories. These moves will set you up for future success.
- Larry Faulkner