If you have the habit of reading news and staying updated, then today’s topic is no stranger to you. Inflation in simple terms is ‘Price Rise’. It simply degrades the value of your money. For instance, if something cost 100 Canadian dollars a month ago and now if it is 107 (7% inflation rate) then your purchasing power has decreased. It could have severe repercussions on the economy as a whole. This article will focus on how you can beat inflation in Canada.
If we go the other way around the term inflation, this term is known as ‘Deflation’. It means a decline in prices. That’s even more dangerous considering the side effects it has like unemployment, unfavorable environment for corporations, etc.
Economics 101 says that Inflation is a measure of the rate of change in the prices of a basket of goods. The basket of goods is already pre-determined and a base value is already established.
Weight is given to various goods in that basket to arrive at a final inflation figure. It is known as the Consumer Price Index. Other measures are PPI – Producer Price Index and PCEPI – Personal Consumption Expenditures Price Index. One way to beat inflation is to save and invest money. But where to park money for beating inflation and gaining better returns?
Well, I have got you covered. Invest in the below assets and it will help you beat inflation in Canada. But first, let’s understand the equation of inflation and investment.
Effects of Inflation on Asset Values
By now, you must be under the impression that inflation is a villain. Inflation makes everything unpredictable. Most people invest in fixed income instruments such as bank savings accounts or fixed deposits. But if history is any guide then these securities are the most vulnerable to inflation. The value you will get investing in these assets would be less than even the inflation rate. As a result, you may end up losing more money than gaining. The same goes for long-term bonds.
Well, this is saddening, but everything has a solution and so does this investing problem, too. You can invest in the following assets to beat inflation in Canada and enjoy good returns over a long period.
Commodities are a bunch of different assets. Gold is obvious that comes to our mind when we think of commodities. However, there are other commodities like silver, aluminum, copper, cotton, soybeans, lithium (used in electric cars), and many more.
Commodities have been a good hedge against inflation for centuries. Commodities prices also rise with the rise in inflation. Gold is the favorite asset people tend to invest in. But you should also look for other options.
Now with the ease of investing, it’s never been easy to beat inflation in Canada. You can just invest in any asset class with just one click. You can easily get exposure to various commodities through investing in Mutual funds and ETFs that invest in those commodities.
For example, gold can be bought from bullion or a dealer. But ETFs and Mutual funds for gold are also available. If you want to invest in it, check out this fund. (For illustrative purpose only). Mainly commodities exposure can be taken from futures markets, but that requires a lot of knowledge of derivatives as they are highly risky.
The universe of the equity class is quite wide, and stocks are a part of it. Some stocks keep up with the pace of inflation, thereby providing you with the returns you should earn to tackle inflation.
However, stocks that pay too high dividends are not generally considered a good hedge. As an investor, look at the companies that are able to pass on rising input costs to consumers and are able to maintain margin. These stocks can be a great value addition to your portfolio.
3. Real Estate
This is one of the asset classes that can help you to hedge inflation. Real estate witnesses an increase in value with rising inflation. That, in turn, increases your rental income and prices of real estate properties.
An individual investor can have exposure to real estate by investing in physical properties or by investing in REITs (Real Estate Investment Trusts). Historical data says that real estate did well against rising inflation in the 1970s. However, we should not forget the real estate crash of 07-08, due to overleverage in the economy.
4. Loans/Debt Obligations
These are some sophisticated products. They require technical knowledge. Loans have been a good inflation hedge. Floating-rate loans that charge interest rates according to changing underlying benchmark rates offer a good return in an event of rising interest rates.
CDOs (Collateralized Debt Obligations) and MBS (Mortgage-backed Securities) are some other examples. They are pools of loans and mortgages. In this, investors invest in the assets, whose underlying assets are loans and mortgages.
Now, this must sound counterintuitive, as earlier we did discuss that bonds are vulnerable to a rise in interest rates and inflation. However, not all fixed-income securities are vulnerable to interest rates.
Fixed income securities like government bonds provide a good hedge against inflation. When inflation rises, the value of these bonds also rises. Interest is calculated on the base value, and that base value increases as inflation increases. Hence your interest income is directly proportional to the rise in inflation.
You can directly invest in these government-backed securities through a broker or via an ETF or a mutual fund. Again, the contention is to beat inflation in Canada. Hence, invest in those securities that do not decrease your value of money.
For and Against Inflation Investing
Pros and cons of inflation hedging investments will give you a clear picture of how to position your portfolio.
Advantages of Investing in Inflation Beating Assets
- Helps in preserving value for your money
- Portfolio diversification
Disadvantages of Investing in Inflation Beating Assets
- Pivoting from your goals
- Risk exposure might increase
- The concentration of asset classes
The Bottom Line
For achieving your long-term goals, knowing what works and what does not is the key to successful investing. If your long-term goals don’t allow you to include the asset classes discussed such as too much weight on equity or too little weight on bonds so far, pay attention to it. It is better to rebalance your portfolio according to your investment objectives and constraints. So, be cautious and invest well!