Inflation-What it mean to our investments?

These days you may have heard a lot about inflation by media and Economists. This is especially when RBI hikes the Repo or Reverse Repo rates. However, today we will look into it in terms your investments. How it will affect your investments and how we can beat it to survive and achieve our financial goals.

Inflation definition in simple term is, “chasing by lot to purchase few available goods”. Suppose you have 10 vacant sites available in your area and when no one ready to purchase or only few people available then automatically the price of those sites decrease due to less demand. But in a reverse case, if lot of people flocked to buy those 10 sites then price of those sites will rise automatically. This is simple meaning of inflation.

You may notice it’s affect in your daily life by just thinking about the daily utensils price when we were kid and to today’s price. Even our parents or grandparents used to tell how cheap utensils were those days compare to todays.  However, what about your parents or grandparents earning in those days? They were earning few thousands and to maintain the same lifestyle.

Let us discuss now about your investments. You always need to consider inflation when you are planning for your financial goals. The reason is, suppose your household expenses in today’s term is around Rs.25,000 then the same value after 25 yrs will be Rs.1,07,296 (Inflation considered is 6%). Surprising right? It is reality, which even we can compare with the past. Example- if our parents used to spend Rs.6,000 25 yrs back then today’s same value is Rs.25,000. So what they used to tell is right that with mere Rs.6,000 they used to maintain household expenses comfortably.

Now, suppose you are planning for your retirement. Your current age is 30 yrs, you are planning to retire at the age of 60 yrs and your life expectancy is around 75 yrs. Then to survive until your life expectancy how much corpus you need? We will do that with below data

1) Inflation-6%

2) Pre Retirement investment returns-15%

3) Post Retirement investment returns-8%

4) Current Household Exp-Rs.25,000 PM

So, the amount required at 60 yrs of your age will be around Rs.2,25,56,062 (Approx 2.25 Cr)!!! Surprised right? We never thought our target as 2.25 Cr for just one goal of our life when we are investing today.

Usually what we will consider when investing is today’s cost but not future cost. Hence, in above example to achieve your retirement target at 60 yrs should be Rs.2.25 Cr not mere 50 lakhs or 1 Cr (Which is huge in today’s term).

One more mistake what often we used to do is, the way we will look into the returns which our investments are generating. For example if your fixed deposit is fetching you around 9.25% of returns. Then is it exact 9.25 % return of less? It is less when we adjust this with inflation. So it is 9.25% (Return on investments)-6% (Inflation Rate) =3.25%. Return adjusted to inflation is called as Real Return. Hence, you need to think all your investments in terms of Real Return. The simple formula to calculate it is {[(1+r)/ (1-i)]-1}*100 where r=return on your investments and i=inflation rate.

Hence, decide while investing for your financial goals and the instruments where you are investing. I hope that this simple article is given you the clarity about inflation and how it will affect our goals. Wish you Happy Saving!

2 Responses

  1. hi sir,
    this article is really gud.the example quoted is a little similar to my case as my age is 30 and my wife is 25 yrs old.our monthly expenses account to 20k .
    i have a doubt,
    i should earn this 2.25 crs in next 30 yrs as my retirement is this amount possible and that to only retirement planning,not for my childerns education and marriage expenses

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