Inflation is a term that we come across very frequently in newspapers, talk shows, and policy measures announced by the government. But most people are unaware of its importance or how it impacts their savings in real terms. Inflation can eat into not just income, but also the savings one has kept in a bank account. It also adversely impacts our day to day purchasing power of the common commodities such as milk,groceries etc.
In simplest of terms, inflation is the increase in price of goods and services in an economy over a period. Inflation is measured by the government using consumer price index or simply CPI. CPI is calculated after comparing prices of hundreds of goods and services and how they have changed over a period. If the rate of inflation is 2.8% it simply means that the price of a product that cost 100 pounds last year will cost 102.8 pounds this year.Also, 100 Pounds a man has, lose their value slightly because of inflation and they can purchase fewer items after a year.
You might think and debate that these increases do not mean much, but the question here is; “Is my income or revenue increasing every year to adapt the increasing prices of the commodities?”
There are many reasons behind inflation, but the major reason being, demand. If there is a definite quantity of a product and demand goes up, the supplier can increase the price knowing that higher demand will allow him to get increased prices.
If you are an investor, you need to factor in the rate of inflation before entering the market.For example; If you are expecting a ROI/ return of 5% per annum from an investment and your country inflation is at 2% per annum, that means your effective rate of return turns out to be 3% per annum after considering the rate of inflation. According to this line of thinking, inflation appears to be a negative aspect for an investor, but yet again the investor is still earning beyond the inflation, right? Well, what about the money savers who earn 0.02% from their bank?
If you are a real estate investor, your entire focus remains on location, the condition of the property, and of course, its price. You hardly pay attention to the rate of inflation prevalent in the economy. However, experts say that it is crucially important for property investors. Unless you know about this important economic indicator, you do not know whether you are truly making capital profits. (from selling)
Being aware that inflation exists and understanding the way it works gives us a stepping stone to be able to adapt and manage it. An increase in prices with commodities could be perfectly okay, but only, if your income increases proportionally.Bank savings are good but even better, if yielding a higher return than that of the inflation rate. otherwise one would only be losing massive amounts of money year after year.
It is not all dark at the end of the tunnel, GOOD NEWS!!! Inflation can easily be taken advantage over (leveraged), It can help you pay off asset loans. For example;The biggest advantage of inflation for a property investor is in erosion of his debt. If you took a loan of 100K pounds and keep paying interest only, you still owe 100K pounds after 20 years. But in real terms the value of 100K pounds becomes only 57K pounds after 20 years at a rate of 2.8% per annum. You haven’t paid your capital, but it gets eroded year after year because of inflation.
As experienced property investors we do factor in a lot of key performance indicators (KPI)to help us valuate where the market is going and create customised strategies to leverage the best out of inflation such as using mortgages where needed or to adjust rents where appropriate to get the best out of the market for our investors.
Inflation is inherently an enemy for a common man if his money remains idle in a savings account. Not only this money loses its value in real terms with passage of time, but it also able to buy fewer items after some time. As an investor one should always strive to beat higher than the inflation mark of your county.
Inflation is going to happen in any case and there is not much you can do about it, but it is your choice whether to leverage it or let it erodes your savings and investments. Governments worldwide need controlled inflation to happen and sometimes do help in facilitating it, because moderate rates of inflation are a sign of a healthy economy.
Is inflation today working in your best interest?