Inflation measures how much more expensive goods and services become over time. Rises in the price of goods and services is driven by supply and demand; rises in demand push prices higher, while drops in demand produce the same effect.
When inflation is high, it means that your money is effectively losing its buying power, as you will be able to buy fewer goods and services for the same amount of money in the future. With high inflation rates making the headlines in the past year, more and more people are looking for ways to protect their cash from its corrosive effects. But how can you do this?
How to invest to beat inflation
If you want to beat inflation, you need to invest your money in assets that either hedges against inflation or earn an interest rate that matches or outpaces the inflation rate.
An inflation hedge is an asset that holds its value during time of inflation. Investing your money in assets with this property allows you to shield yourself from the worst of inflation. But it’s worth bearing in mind that there’s no known asset that hedges against all inflationary environments.
Alternatively, you can invest your money in assets that earn interest at a higher rate than inflation. For example, if the inflation rate is 6% and your investments earn 7% in interest, then your money increases by 1%. Sure, you aren’t much better off than you were before – but, crucially, you’re no worse off.
But what assets could help you hedge against or outperform inflation?
Three assets that could help you beat inflation
- Property
Income from property investments tends to perform well during times of inflation, because property values tend to rise with inflation rates. This means that landlords can charge higher rental prices, helping them better keep up with the inflation rate. If you don’t have the capital to invest in an actual rental property, you can get exposure to the property market by investing in real estate investment trusts (REITs).
- Index funds
Historical performance suggests that investing or trading stocks is a reliable way to beat inflation. This is especially true if you invest in index funds like the S&P 500 or the FTSE 100. These indices represent the performance of the biggest companies in a particular market. Although you can’t invest in them directly, you can invest in an ETF that seeks to track them through most simple stocks & shares ISAs.
- Commodities
This is a broad category of assets that include everything from grains and precious metals to foreign currencies and natural gas. Commodities have a unique relationship with inflation, in that their prices tend to rise with inflation. Most commodities act as raw ingredients for goods and services, so as the prices of goods and services rise, the prices of commodities do too.
Protect your money
While there’s no guaranteed method to beat inflation, the strategies outlined above offer a solid foundation. Moreover, you can use a combination of assets to create a diversified portfolio that offers protection against inflation while also aiming for long-term growth. Consult a financial advisor to determine the best investment strategy for your individual circumstances and risk tolerance.