If you visit the market regularly, you will notice that, more often than not, prices of goods are usually on the increase. The sliced bread you bought for N500 last month is probably now as high as N800, a whopping increase of 60%.
In fact, many of us have gotten so used to this that we become surprised if prices remain the same or decline, even marginally. This is the effect of what economists refer to as inflation! Typically, we define inflation as the persistent rise in general prices of goods and services, either because of excess money in the economy chasing fewer goods or an increase in the cost of production, passed on to final consumers.
The concept of time value of money, which states, “A sum of money in the hand now has greater value than the same sum to be paid in the future,” explains the erosion in the value of money over time as caused by inflation. This is because your purchasing power declines persistently, sometimes fast, and other times, slowly.
For example, Kunle, a young graduate of Economics, working at a top wealth management firm and earning N350,000 monthly, desires to buy a fairly used car that costs around N2.5 million. To purchase the car, he decides to save N209,000 per month in a savings account platform that pays 9.5% per annum. At the end of 12 months, Kunle would have saved up to N2.6 million, an accumulation of both principal and the interest.
Unfortunately, on getting to the car dealer, Kunle finds out that the same car is now being sold for N2.8 million, compared to N2.5 million 12 months ago. What has happened? Inflation. Kunle failed to take into consideration the possible effect of inflation on the price of the car and has come short.
As an investor, you want to ensure that you’re hedging against inflation by getting competitive returns above the current inflation rate. If the value of your income declines by 12% annually, to retain the value of your funds, the returns you should be getting on your investments should be at least 12%, if not more. Anything below makes you worse off in real terms. To achieve this, you would want to consider asset classes that have outperformed the inflation rate over time to achieve a positive real return.
Asset classes like equities, commodities and real estate are good options to consider. While some of these can be quite risky, it is expedient that one follows the investment rule of diversification with the help of a financial advisor.
In truth, inflation is a factor that cannot be controlled by an individual investor, but there are strategies that you can engage in to stay on top of your investment game to preserve the value of your wealth. Ready to start making smart investment decisions, send us a DM on social media and we’ll be glad to advice!