Skip to main content

Inflation & Its effect on your Financial Goals



Each goal has two components — a time-frame over which it has to be achieved, and an amount of money that will be needed. From this point onwards, it seems like a simple matter to calculate what needs to be done. If you can assume a rate of return, and know some basic arithmetic, you can figure out how much needs to be invested and how much the returns must be for the target to be reached.


However, there are some ifs and buts. Unless these are taken into account, the end-result may not be as happy as the calculations indicate. One of the common hurdles is inflation. This is surprising since inflation is so much in the news but most of us fail to appreciate the huge impact it can have over the very long-term. The problem is that assuming a likely rate of return and a likely rate of inflation introduces two independent compounding variables in the calculations. If your estimates are off the mark, your calculations could go haywire.


And given that human beings (specially human beings who invest!) are inherently optimistic creatures, they are very likely to underestimate inflation and overestimate returns. But there's a neat way around this problem. The trick is to appreciate that inflation and investment returns are not independent variables. Generally speaking, most asset types can reasonably be expected to generate returns that are inflation + n%, and the range over which 'n' is likely to vary is much smaller than that of the total returns.


Even for something as stable as bank fixed deposits, you'd be hard pressed to estimate returns over the next 10 years. However, you can pretty much be sure that the returns will be about the same as the inflation rate, perhaps a per cent lower.


This makes it much easier to make an inflation-adjusted long term target estimate. Basically, you can just estimate that your returns from an FD will be zero and you will just get your money back. This works for equity too. It's not as precise, obviously, but you can assume that your real equity returns will be about 5% and you will be a lot less wrong in planning your target estimating inflation and returns separately.


So much for inflation. However, do appreciate the fact that this is not a trick of calculation. All returns are, in a manner of speaking, indexed to inflation in some way or another, even in equity investing. Some companies grow faster and some grow slower, but inflation is built into all the numbers that make up that growth. It is genuinely a more accurate method to predict returns as something +/- inflation rather than make independent predictions for both returns and inflation.

There are a number of other things that you need to take care of if you'd like to invest towards a target. Your approach would be different depending on whether the time frame is negotiable, and whether the amount is negotiable. You would also need to change the asset type in which you are investing depending on the time frame. I'll write about these in future.
 

Popular posts from this blog

Surrender ULPPs

  ICICI Pru LifeTime and ICICI Pru Lifestage are Unit Linked Pension Plans. Such insurance linked retirement plans are neither good investments nor do they offer sufficient insurance cover. As you can see, these have turned out to be bad deals. In the Lifetime plan, the fund value is not even equal to the total premiums that you have paid and in the Lifestage plan your return is just about 6% which is quite low. The mortality charges are as per your age which is why they have increased. Moreover, once these plans matures, you will have to compulsorily opt for annuity (regular income) and the annuity rates are generally modest. Assuming these plans mature in the next one year, it will be wise to surrender the plan now and curb your future commitments.   Before you choose to buy a term plan, you have to consider a few points. You need to insure yourself, only during the time you are working and your family is financially dependent on you. At the age of 59, not all insurance companies w...

ICICI Pru Constant Maturity Gilt dividend

Invest ICICI Prudential Constant Maturity Gilt Fund Online ICICI Prudential Mutual Fund   has announced dividend under the following schemes: Scheme Dividend ( R /unit) ICICI Pru Constant Maturity Gilt-DQ 0.26543239 ICICI Pru Constant Maturity Gilt Direct-DQ 0.27171609 ICICI Pru Q Interval Plan I-D 0.10617296 ICICI Pru Q Interval Plan I Direct-D 0.10703967 ICICI Pru Q Interval Plan I Ret-D 0.10617296             The record date has been fixed as June 13, 2016.   ----------------------------------------------- Invest Rs 1,50,000 and Save Tax under Section 80C. Get Great Returns by Investing in Best Performing ELSS Mutual Funds Top 10 Tax Saver Mutual Funds to invest in India for 2016 Best 10 ELSS Mutual Funds in india for 2016 1. BNP Paribas Long Term Equity Fund 2. Axis Tax Saver Fund 3. Franklin India TaxShield 4. ICICI Prudential Long Term Equity Fund 5. IDFC Tax Advantage (ELSS) Fund 6. Birla Sun Life Tax Relief 96 7. DSP BlackRock Tax Saver Fund 8. Reliance Tax Saver (ELSS) ...

NPS Investment Choice for Safe Investors

Invest NPS Online       Whether they invested through SIPs or put in a lump sum amount, risk-averse individ uals have earned the highest returns. These are investors who stayed away from stocks and divided their NPS corpus between G class gilt funds and C class corporate debt funds. On average, gilt funds have given 9.75% annualised returns while corporate debt funds have churned out more than 11% in the past five years. As a result, the average return for ultra-safe investors in the past five years is in double digits. Even in the short term, ultrasafe investors have been the biggest gainers among NPS investors. Will the good times continue? The gilt funds of NPS are holding long-term bonds with an average maturity of over 19 years and a modified duration of about 9 years.These funds have done well because interest rate cuts have pushed down bond yields. But experts say this trend will not stay forever. NPS is a long-term investment and the bonds are predominantly held to matu...

Buy Health Insurance Plan even if you are covered with my Employer

Buy Health Insurance Plan Online Yes, getting a private insurance cover now, which extends beyond your retirement age, is recommended There are a few reasons why buying a health insurance plan may make sense even though you get medical insurance from your employer. Here are the points you need to think about. Firstly, your employer's insurance coverage will only protect you as long as you are employed with the company. The policy will terminate when you quit the job or when you retire. Post retirement is perhaps the phase when one needs it the most but you won't have it then. Moreover, buying a new insurance policy after the age of 50 means that there will be no coverage for pre-existing diseases.   Lastly, health insurance policy you get from your employer may or may not cover your dependants. ------------------------------ ----------------- Invest Rs 1,50,000 and Save Tax under Section 80C. Get Great Returns by Investing in Best Performing ELSS Mutual Funds Top 10 Tax Saver M...

SBI MAGNUM MIDCAP ONLINE

Invest SBI MAGNUM MIDCAP ONLINE   SBI MAGNUM MIDCAP fund didn't fare well in its initial years but, in recent years, has steadily improved its performance under the capable hands of its current fund manager. Although investing predominantly in mid-cap stocks, the average market capitalisation of its portfolio is lower than other category peers.   Although the stock selection approach is mostly bottom-up , the fund manager doesn't shy away from taking bold sector bets , as is reflected in its large exposure to the healthcare sector. She is equally adept at handling performance across market cycles--the fund has captured more of the upside during market upticks and contained the downside during downturns in a better manner than its peers.   Given its superior risk-reward equation, the fund is a worthy pick in its category.     ----------------------------------------------- Invest Rs 1,50,000 and Save Tax under Section 80C. Get Great Returns by Investing in Best Performing EL...
Related Posts Plugin for WordPress, Blogger...
Invest in Tax Saving Mutual Funds Download Any Applications
Transact Mutual Funds Online Invest Online
Buy Gold Mutual Funds Invest Now