How does inflation impact your retirement savings?

With inflation surging in both the EU and the UK, now is the time to review your savings and investments to establish if they are suitably structured to provide protection from this threat.

“Inflation is when you pay 15 dollars for the 10-dollar haircut you used to get for five dollars when you had hair.”

This quote by American author and humorist Sam Ewing may make you smile, but it is a good example of the impact of inflation over the passage of time and underlines a serious threat to our long-term financial security.

Ronald Reagan used a more hard-hitting description: “Inflation is as violent as a mugger, as frightening as an armed robber and as deadly as a hit man.”

Many people do not realise how damaging inflation is to their wealth over the longer term. It is surging in many countries, causing concern among savers and retirees. Even low levels impact your wealth and retirement income over time – you may not notice the effects each year until it is too late.

The impact of inflation
You cannot just consider CPI (Consumer Price Index) rates on their own, you need to compare them to your earnings. If your savings generate a lower return than inflation, the real value of your money is falling and your income will buy less than it used to.

Official figures are based on a basket of goods containing a representative selection of items for people across all ages and incomes. It rarely reflects our own personal inflation rate. As an illustration, a personal annual rate of 4% would reduce the spending power of 100,000 (Euros or Pounds) to around 67,000 after 10 years. After 20 years, it will have lost around 55% of its value and, after 30 years, your 100,000 would have the purchasing power of around 30,000 today.

Inflation in Portugal and the Eurozone
Across the Eurozone, the annual inflation rate reached a record 5.0% in December 2021. A year earlier, the rate was -0.3%. The highest contribution came from energy, followed by services, non-energy industrial goods and food, alcohol and tobacco.

Portugal, however, had the second lowest inflation rate in the Eurozone, with 2.8%. Our neighbours in Spain suffered 6.5% inflation, while the highest was recorded in Estonia with 12%.

However, Portugal’s Instituto Nacional de Estatística’s (INE) monthly economic survey confirms that 2021 saw an acceleration in prices, with the Consumer Price Index (CPI) presenting a strong upward movement. Remember, too, that your personal rate may be higher, and even low levels are damaging over time.
UK inflation

In the UK, CPI reached 5.4% in December 2021, the highest rate for almost 30 years.

In comparison, the Bank of England’s main interest rate was just 0.25% in December. It has been below 1% since March 2009.

Will inflation remain high?
Many of the factors behind the current surge are related to the pandemic and expected to be temporary.

As economies opened unevenly after lockdowns, companies have been struggling to keep up with rapidly rising demand as they rebuild their supply chains. Shortages of many goods have pushed prices up. In addition, electricity prices rose sharply, hitting us both directly and indirectly.

The Bank of England expects inflation could reach about 6% by spring 2022, then start to come down, but warns some prices may remain higher than in the past.

The European Central Bank also expects inflation to reduce over 2022 as supply gradually catches up with demand, but warns this recovery may be different.

Protecting your retirement savings
To generate returns that outstrip inflation, you need to invest in assets that historically generate returns in excess of inflation over time. Reduce risk to your capital by working with a wealth management adviser to follow a disciplined investment process:
▪ Establish your goals and time horizon.
▪ Determine your attitude to risk – your adviser should take you through a suitability process to calculate this objectively.
▪ Construct a suitable, well-diversified portfolio to achieve your objectives.
▪ Use quality investment managers.
▪ Review your portfolio to keep it on track.
▪ Be patient and stick with your plan.

If you have not reviewed your savings recently, look at your financial affairs to confirm if they are suitably structured to provide protection from potential threats like inflation and taxation.

You need a tax informed investment strategy with the potential to provide capital growth and where your money is legitimately protected from unnecessary taxation.

This can be achieved with a diversified investment portfolio, based on your objectives, circumstances and risk profile, held within a tax-efficient arrangement which is compliant in Portugal.

CPI data is based on figures available on January 19, 2022. All advice received from Blevins Franks is personalised and provided in writing. This article, however, should not be construed as providing any personalised taxation or investment advice.

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By Dan Henderson

Dan Henderson is a Partner of Blevins Franks in Portugal. A highly experienced financial adviser, he holds the Diploma in Financial Planning and advanced qualifications in pensions and investment planning from the Chartered Insurance Institute (CII). |