Inflation rose to 5% in May, the highest jump since 2008 in America. Inflation in April was 4.2%.
This is the highest level in over a decade in America. Now some folks will blame it on used cars because of car shortages, or airfares skyrocketing, but there’s more to it than just those.
Used cars and airfares are up over 30% year-over-year, and yes that matters. However their weight in determining inflation is relatively small.
Even if prices in those two categories were completely flat, inflation would still be running around 4%. It’s hard to isolate just a few items and say that’s what is driving the inflation numbers. A lot of prices are rising across the board from car insurance, energy in commodities, to other things. But not one single category is driving it, which is even worse.
Food and housing are the two biggest driving factors in what drives inflation. Currently those costs are around 2% per year, so at a slower rate than other goods and services.
Even if the markets don’t collapse in reaction to rising inflation, then inflation still matters to your actual returns. In fact, historically investing successfully under inflation often requires a different asset allocation.
If inflation is 0% then earning 5% on your portfolio gives you, predictably, a 5% real return. Economists use the term “real” to describe the impact of your return after inflation. Now, with inflation running at 5% you’d want a 10% return on your money to preserve your spending power at the same level.
It may not be immediately obvious that inflation is hurting your investment returns, but it very likely is. That’s because at some point you’re going to want to spend the money you’ve saves and now it won’t go as far, should inflation remain elevated.
Thanks to our friends at Forbes for contributing to this article.