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The impact of inflation on your investments: How to protect your assets

Posted on Saturday December 19, 2020


The impact of inflation on your investments: How to protect your assets

Inflation, measured using the Consumer Price Index (CPI), is a general and sustained increase in the prices of goods. Over the long term, it may well become your worst enemy by surpassing or matching the returns on your investments. To better understand inflation, we speak with wealth management expert Kathleen Couillard, CFP, a financial planner at UNI and an investment advisor at Credential Asset Management Inc.

How does inflation affect purchasing power?

“When inflation increases, purchasing power decreases by the same amount,” says Ms. Couillard. Purchasing power is what you’re able to get for that amount. In 2019, inflation was 1.9%. In 2020, it should be 1.1%. In other words, the same asset acquired in 2018 was 1.9% more expensive in 2019, plus another 1.1% in 2020. The effect is cumulative from one year to the next. The target for the Bank of Canada, which is responsible for maintaining the value of currency by keeping inflation low and stable, is 2%.

Frequently, the cost of products in certain categories increases more or less than this overall measure. For example, transportation costs may fall, as we’ve seen since the beginning of the pandemic.

The CPI in Canada takes into account 8 categories of goods:

1- Food

2- Accommodation

3- Regular expenses (such as telephone and electricity)

4- Household furnishings and amenities

5- Clothing and shoes

6- Transportation (such as vehicles and public transit)

7- Health-care and personal-care costs (medical services, dentists, optometrists, etc.)

8- Leisure (such as trips, concerts, subscriptions, alcohol)


Kathleen Couillard, CFP, financial planner at UNI and investment advisor at Credential Asset Management Inc.

Inflation measured individually

Ms. Couillard stresses that it’s important to “distinguish between general inflation (CPI) and inflation measured individually, which affects each person according to what they consume. An individual or family’s spending could increase more if food represents a significant portion of their overall spending (a larger portion than assigned in the CPI calculation).” For example, if you have a large family, your grocery bill may be higher than average. Therefore, rising food prices are likely to have a greater impact on your purchasing power than general inflation would suggest.

The multiple facets of inflation: From supply and demand to the prime rate

Since the beginning of the pandemic, governments have been injecting money into the economy through a variety of measures. This has significantly increased the money supply and is the primary cause of inflation, according to Ms. Couillard. But inflation is a complex phenomenon, and a whole set of factors can influence it. Ms. Couillard also points to low interest rates, which allow households to borrow more money and inject even more capital into the economy. In addition to these two causes, the price of goods varies according to supply and demand, as well as the price of raw materials, wages and equipment, which in turn drive up production costs and thus prices.

A remedy for inflation: The role of the prime rate

We love an economy running at full throttle, but it’s not so great when you lose control. To keep inflation in check, the Bank of Canada uses the prime rate, which dictates the borrowing rates of financial institutions. “The prime rate can be raised or lowered, which drives interest rates in the same direction on mortgages and all other types of loans (personal, auto, etc.). When rates are raised, it costs more to borrow (you pay more interest) and people want to save rather than spend, which reduces the money in circulation,” Ms. Couillard explains.

Rising interest rates: The Bank of Canada exercises prudence

Are you anxious about interest rates rising? When might that happen?

Relax! The average inflation rate in Canada is around 3%, but inflation has rarely exceeded 2.9% in the past 20 years. According to Ms. Couillard, “we could return to a historical average one day, but only in the longer term.” Why? “The pandemic is still raging, and a high level of household and government debt are making central banks cautious about raising rates.” The return of staggering rates, sometimes exceeding 15% (those who lived through the 1980s will remember it well!) is therefore very unlikely. In the medium and long terms, however, it’s difficult to predict what will happen. How can you prepare?

A financial plan: The best way to deal with rate hikes

We can’t say it enough, and Ms. Couillard agrees: A financial plan is essential. She describes it as the ideal tool for mitigating the risks that could prevent you from achieving your goals, such as saving enough money for your retirement. To see if you’re on track to reach that financial goal, use our retirement assessment tool.

In 2020, prosperity = real estate

Real estate is going strong! Its value has increased faster than inflation this year. Should your investment strategy be focused on real estate?

Ms. Couillard recommends diversifying your investments to include real estate, but she cautions against the less visible short-term costs, such as renovation and maintenance, taxes and time looking after a property. In a nutshell, real estate should be part of an overall investment strategy that leaves room for other things.

Adapt your portfolio to the current context

Let’s take the case of an investor with an average risk tolerance who will do anything to avoid seeing their return go up in smoke because of inflation. What should their target be?

“In 2020 an investor with an average risk tolerance should always aim for a return of 4% or more,” says Ms. Couillard. For a well-diversified portfolio, she recommends the following:

  • Short-term bonds, such as treasury bonds and some emerging market bonds that offer a good return.
  • Shares of companies that pay high dividends, allowing them to redistribute profits to shareholders, who then benefit from any economic recovery.

To end on a positive note, Ms. Couillard has a message of hope for those affected by—and worried about—the pandemic: “Stay the course and stay positive!” To learn more about the best ways to adapt your strategy, make an appointment with an advisor.

Savings and investment management: Mutual funds and related financial planning services are offered through Credential Asset Management Inc. Mutual funds, other securities and securities-related financial planning services are offered through Credential Securities, a division of Qtrade Credential Securities Inc. Credential Securities is a registered trademark of Aviso Wealth Inc.

Online brokerage services are offered through Qtrade Investor, a division of Credential Qtrade Securities Inc. Qtrade is a registred mark owned by Aviso Wealth Inc.

This article is provided as a general source of information and should not be considered personal investment advice or a solicitation to buy or sell any mutual funds.

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