Inflation and Investment Decisions

Investment

oi-Monika Nihalani

By Monika Nihalani

Published: Thursday, August 25, 2011, 14:18 [IST]

Every year at least once or twice we hear everybody talking about inflation. Government seems concerned, RBI starts playing with monitory policy, markets start crashing, commodity prices start skyrocketing, banks start increasing interest rates and n number of other stuffs which sound repetitive year on year.

In the whole action packed scenario one entity who is entirely confused is an individual investor. All his investment decisions seem to go haywire at this particular point of time and he is left wondering where he went wrong. Why government and policy makers are not able to tame the ghost Inflation for ever, as it resurfaces every time to haunt everybody with vengeance.

As individual investors are always in a fix because of this beast, let"s try to find out a solution which will help them deal with it in a better fashion.

The Challenge
If I put myself in the shoes of an investor the biggest challenge which I face while taking investment decisions is lack of customized solution. By customized solution I mean a solution based on my earnings (from salary/Business/Retiree), my age, my risk appetite etc. If I try to research I always come across some generic solutions like invest in commodities, real state, gold etc but it"s difficult to convince myself for such investments as I have some specific constraints.

Investors Group
To put this in perspective we will divide investment strategy based on parameter and constraints mentioned above. So before we start let"s categorize the individual investors as
1. Mr Y – Young/Salaried/Having knowledge of finance and economy/Resourceful/High risk appetite
2. Mr B – Young/Income from business/Little knowledge/Less resourceful/Moderate risk appetite
3. Mr O – Old/Pensioner/Little Knowledge/Less resourceful/Lowest risk appetite

We can make 'n' number of categories but, as most of us will fall into the above groups let"s focus on what should be the investment strategy for protection against inflation based on above categorization.

Investment Options and the eligible group
What inflation basically does is it snatches away the purchasing power of money. It weakens money against goods and services in general. So if you have one thousand in cash today you have more bargaining power than that if you will have same one thousand in cash next year. In simple words time plays the role of rust for money.

So as we are aware of the role of inflation, the best investments in inflationary times would be those which will give you returns over and above inflation rate. Let"s explore them one by one.

1.Investment in stocks – Stock market is considered risky but if you are smart it"s rewarding too. In inflationary environment we always witness market crash. If we watch closely we can very well find out that there are few sectors which perform above inflation rate. The companies which produce goods which you cannot avoid consuming, and companies in commodity sector are the best bet against inflation.

If you are Mr Y you can very well do this analysis and invest as your financial position is suitable for investing in stock market. Stock market investment is also suitable for Mr B and few of the sectors and companies where you can put your money to fight inflation are – FMCG, Healthcare and medicines, Mining, Oil, Gold, Food and beverages, Technology. If you understand the market and have access to resources you can go long on crude oil and commodities like gold and silver. Mr O can also take an exposure in stocks if he is sitting on extra cash.

2.Investment in Real State/Land/Home – We always hear that real state bubble is there and this market will correct like anything, home prices will go down, value of land bank will devaluate but I never saw it really happen. There might be long stretches of numb prices but devaluation in growing economy like India is out of question. You can also earn by renting the property you own and protect yourself against inflation as rents always increase with inflation. It doesn"t matter if you are Mr Y, Mr B, Mr O, you should invest if you are sitting on cash to protect yourself against inflation.

3.Investment in foreign markets – If you have knowledge and resources of investing in foreign markets you should buy into emerging markets and foreign bonds as they normally gives returns higher than the local inflation. This investment option only suits Mr Y.

4.Invest to increase your future earning potential – If you are salaried you should compare your salary raise with existing inflation rate. If raise is on the lower side its time to acquire new skill and make a shift. If you are a business owner and you are cash rich you should invest in opportunities which has future earning potential. If you are retired but don"t feel like old at heart you should explore options of providing consulting services for the skills you have acquired when you were in service.

Remember nobody gets rich by saving. You can get rich by earning. So if necessary evil like inflation gives you an opportunity to earn, why not to utilize it and help Mr money protect its power against time. A little favor for Mr money who does so many things for us.

InvestmentYogi