Inflation is a problem, but it’s not an unsolvable one

Written By Jonathan Prout, The Private Investment Office

“By a continuing process of inflation, government can confiscate, secretly and unobserved, an important part of the wealth of their citizens.” –  John Maynard Keynes 

Inflation, is one of the most heavily researched and debated areas of economics.  What is not debatable is that inflation is almost always present, meaning that the purchasing power of £1 or £1,000,000, will be less in the future.

Why does Keynes describe it as “secretly and unobserved” ?Whilst an increase in prices over a year might almost go unnoticed (though perhaps not this year),  over a 30 year period this impact really starts to add up.

To understand this, let’s look at a stylised example that assumes a constant rate of inflation of 4.6% (the current 10 year forecast).  In the real world, rates of inflation will fluctuate from year to year, but as an illustration this will show the impact of inflation.

 Year 1Year 3Year 10Year 30
Capital value of £250,000 in Real Terms, receiving 0.25% in the Bank£239,603£220,089£163,481£69,907
Loss in today’s money i.e. in real terms-£10,397-£29,911-£86,519-£180,093

Inflation has hardly been out of the news over the last few months, but the impact of inflation on our client’s financial future has always been central to our thinking.  To give an example from last year, our client’s investments in UK Government bonds had increased in value meaning the yields had dropped to 1 % p.a, with inflation already forecasted to be over 4%.  We knew that our clients would be locking in a negative real return of -3 % per year (the return after inflation) if we remained invested.  We took the action to minimise our client’s exposure to an area that most Wealth Managers believed to be a “safe” investment.  UK Government bonds have had a capital loss of over -12% so far this year.

One of the ways we protect our clients from this is by constructing sophisticated and well-diversified investment portfolios that are likely to out-perform inflation over the long term.  A diversified portfolio means holding a broad range of assets, including investments that benefit from increasing inflation.   With inflation forecasted to reach over 11% this year and remain above trend for the foreseeable future, this is more important than ever.  In the coming years, we believe this will be one of the central pillars of securing our clients’ financial legacy.

Just as important is the role we take to educate our clients and their families on the many aspects of long-term wealth creation.   Understanding the impact of inflation is just one area of this.  Passing on knowledge and wisdom, as well as financial wealth, is the way our clients secure their true legacy: The success and well-being of the next generation.


Get to know our guest author

Jonathan Prout
Chief Investment Officer at The Private Investment Office

Jonathan is an experienced investment professional having held senior roles in major financial institutions, managing global Investment strategies for over 15 years. Jonathan is a graduate of the University of Warwick and holds a number of certificates and qualifications in investment analysis, financial modelling, statistical analysis and quantitative finance.

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