Although no investment can guarantee above-inflation returns, PPF and debt funds are viable alternatives to fixed deposits.
Is it possible to combat inflation with fixed deposits?
In its recent monetary policy review, the Reserve Bank of India (RBI) cut its inflation forecast for the financial year 2021-22 by 40 percentage points (one percentage point equals one tenth of a percent) from 5.7 percent to 5.3 percent. In general, decreased retail inflation is good news, but for many fixed deposit (FD) holders, it may not be.
Despite low inflation, the real returns on FDs may still be negative because deposit rates are at an all-time low. The actual rate of return is the difference between the interest rate and inflation. As an example, if a bank’s one-year FD interest rate is 5% and inflation is 5.3 percent, the investor will receive (-) 0.3 percent. As a result, your corpus may be less than your initial investment in a one-year FD paying 5% interest.
In addition, the interest earned on FDs is taxed at the marginal tax rate. So, if you have a 5% interest rate FD and you’re in the 20% tax band, your return will be roughly 4%. “With only 4% earnings, he/she may not be able to keep up with inflation.” According to Arijit Sen, a Sebi-registered investment adviser and co-founder of Merrymind.in, a financial planning service, “money’s purchasing power is dwindling.”
Goods prices rise as a result of inflation. We will not have any surplus funds if our investments do not provide returns that are at least equal to inflation, if not more. Let’s look at an example to see how this works. Assume we can buy a basket of items for Rs 100 this year and also invest Rs 100 in a fixed deposit. With 6.5 percent inflation, the identical basket of products will cost Rs106.50 a year later, but the FD will only return Rs105. We won’t be able to keep up with inflation unless we get at least Rs 106.50 from the FD.
“Interest rates in India are dropping. It could be difficult for someone who is completely reliant on FDs to meet their needs in such a situation,” Sen argues.
People tend to move funds from one source to another to make up for a shortage when there is a negative rate of interest. For instance, if you invest Rs 10,000, you should anticipate to receive Rs 11,000 after five years. However, you will receive Rs 10,500 because to the lower actual rate of interest. In such circumstances, people frequently contribute money from another source to bring the total to Rs 11,000, resulting in a net loss of value.
Many senior persons and others are risk averse and invest in fixed-income securities (FDs). “It was simpler to battle inflation before, when the (FD) rate of interest was around 10-11 percent,” adds Sen. However, this is no longer the case.
Even for senior adults, investing their whole retirement fund in FDs is no longer a good idea. FDs and other investments with interest rates lower than inflation are no longer appealing in terms of returns.
What rate of interest will outperform inflation?
2 In general, defeating inflation necessitates an annual return on investment of at least 4% to 6%, on top of whatever income is made or saved for.
Can you fight inflation with a savings account?
While the greatest savings accounts presently earn roughly 0.40 percent annual percentage yield, this is significantly more than the average savings rate of 0.06 percent and will bring you more money than the zero dollars you’d receive if you kept your money in a safe.
Does investing outperform inflation?
Investing in a diverse stock portfolio is a great method to beat inflation. The S&P 500, a key benchmark for U.S. stocks, had an average return of roughly 9.5 percent from September 2001 to September 2021. (with dividends reinvested). After adjusting for inflation, you’re still looking at an average yearly return of around 7%.
Even with today’s significant price increases, you would have soundly defeated growing prices: Inflation increased by over 5% from November 2020 to November 2021. With dividends reinvested, the S&P 500 increased by more than 32% during the same time period.
To benefit from this kind of historic growth, there’s no need to resort to picking specific stocks, which can be time-consuming and hazardous. Start by investing in an S&P 500 index fund or ETF, which mirror the index’s performance while keeping costs to a minimum. They provide straightforward, low-cost diversification by containing hundreds of equities, which reduces risk and portfolio management difficulties.
Always keep in mind that stock investing is never without risk. Short-term losses are possible, and stock index funds do not allow you to choose which firms the fund invests in. Consider investing in an environmental, social, and governance (ESG) fund instead if you’re concerned about your money going to companies you don’t agree with morally.
What is India’s inflation rate?
According to data provided by the National Statistical Office (NSO) on Friday, India’s retail inflation rate, as measured by the Consumer Price Index (CPI), was 6.07 percent in February 2022. According to a Reuters poll of 36 economists, the reading was expected to fall to 5.93 percent on an annual basis in February.
When will FD rates rise?
On February 14, 2022, the new rates will take effect. The bank boosted the 1-year FD interest rate by 10 basis points to 5% from 4.9 percent, and increased the 3-year to 5-year FD interest rate by 5 basis points to 5.45 percent from 5.40 percent.
In this time of tremendous inflation, where should I place my money?
“While cash isn’t a growth asset, it will typically stay up with inflation in nominal terms if inflation is accompanied by rising short-term interest rates,” she continues.
CFP and founder of Dare to Dream Financial Planning Anna N’Jie-Konte agrees. With the epidemic demonstrating how volatile the economy can be, N’Jie-Konte advises maintaining some money in a high-yield savings account, money market account, or CD at all times.
“Having too much wealth is an underappreciated risk to one’s financial well-being,” she adds. N’Jie-Konte advises single-income households to lay up six to nine months of cash, and two-income households to set aside six months of cash.
Lassus recommends that you keep your short-term CDs until we have a better idea of what longer-term inflation might look like.
How do you account for inflation in your calculations?
- Governments can fight inflation by imposing wage and price limits, but this can lead to a recession and job losses.
- Governments can also use a contractionary monetary policy to combat inflation by limiting the money supply in an economy by raising interest rates and lowering bond prices.
- Another measure used by governments to limit inflation is reserve requirements, which are the amounts of money banks are legally required to have on hand to cover withdrawals.
How can I plan for inflation in 2022?
With the consumer price index rising at a rate not seen in over 40 years in 2021, the investing challenge for 2022 is generating meaningful profits in the face of very high inflation. Real estate, commodities, and consumer cyclical equities are all traditional inflation-resistant assets. Others, like as tourism, semiconductors, and infrastructure-related investments, may do well during this inflationary cycle as a result of the pandemic’s special circumstances. Cash, bonds, and growth stocks, on the other hand, look to be less appealing in today’s market.
Do you want to learn more about diversifying your investing portfolio? Contact a financial advisor right away.
Inflation favours whom?
- Inflation is defined as an increase in the price of goods and services that results in a decrease in the buying power of money.
- Depending on the conditions, inflation might benefit both borrowers and lenders.
- Prices can be directly affected by the money supply; prices may rise as the money supply rises, assuming no change in economic activity.
- Borrowers gain from inflation because they may repay lenders with money that is worth less than it was when they borrowed it.
- When prices rise as a result of inflation, demand for borrowing rises, resulting in higher interest rates, which benefit lenders.