3 Ways to Reduce Your Exposure to Inflation

by Miranda Marquit · 2 comments

When making your financial plans, it’s important to consider the wealth-eroding effect inflation can have. Inflation reduces your purchasing power, and it can mean that today’s dollar won’t go as far in future years. Essentially, inflation guarantees that what you save now won’t be worth as much in real terms a couple decades down the road. As a result, it is important to plan ahead, and make moves now to help you so that your earnings will be high enough that you are still ahead — even after inflation takes its toll. Here are 3 ways to reduce your exposure to inflation:

1. The Right Investments

Some investments can help you beat inflation. If inflation runs at an annual 3%, and your annualized return is 6%, then you come out ahead. Your money is growing at a faster rate than inflation. Many people like dividend stocks, since the value of the stock itself have the potential to grow, while providing you with an income. Certain dividend stocks can be very helpful when it comes to beating inflation. Commodities can provide an even better hedge against inflation, but the volatility of some of these investments will test your risk tolerance and knowledge to stay the course.

If you are concerned about stocks, and too jittery about commodities, you can opt for something considered less risky. TIPS are Treasury securities indexed to inflation. So, your capital can be protected, and you get a little extra, without a great deal of risk. Of course, the lower your risk, the more your potential gains are limited.

2. Be Smart About Debt

Some will say that you should borrow as much as you can if there is runaway inflation because your debt won’t be nearly as costly in real terms if the price of everything goes up. Yet, with rates are relatively low right now, paying down debt as fast as you can will help you deal with inflation much more easily since you will have more cash flow to deal with rising prices as your money isn’t being sucked into debt payments and interests. So pay off credit cards while interest is a little lower, and more of your payment goes to principal. If you wait longer to pay off your debt, you might find that you might have to choose between paying your debt or buying groceries!

While we are on this topic, now is also a good time to refinance, locking in lower rates. You can refinance your home to a lower rate, saving money each month so you have more to invest. If you have a variable rate, locking in can help you avoid interest rate inflation in the coming years. You can also find good deals on refinancing your car loan, as well as low debt consolidation rates to help you avoid higher rates later.

3. Lifestyle Choices

The way you live your life can also reduce your exposure to inflation. A healthy lifestyle will save you money money now, and will also result in slow increases to your health insurance premiums. While you can’t avoid insurance rate rises altogether, you can prevent huge rate increases every year with better health habits.

You can also reduce your exposure to gas prices inflation by driving less. As you probably know, one of the biggest drivers of inflation recently has been gas prices. Walk more, or ride your bike, and consolidate trips to help you reduce your exposure to inflation. You can also talk to your boss about telecommuting two or three times a week. If you can avoid the commute, you can also avoid some of the gas price hikes.

What other ways can you reduce your exposure to inflation?

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{ 2 comments… read them below or add one }

Louis July 19, 2011 at 7:28 pm

Besides TIPS, invest in I-bonds. These treasury-issued savings bonds that pay two parts interest: a base rate which remains fixed, and a variable rate based on inflation. Currently the base rate is zero, but the inflation rate is 4.6%. That rate is paid for six months and then it is reset based on the Consumer Price Index. The bonds are taxable, but they are deferred until you cash them in. Minimum holding period is one year. After five years they can be cashed without penalty. Max holding period is 30 years. Learn more at treasury.gov.

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ib12541 July 21, 2011 at 1:24 pm

But the CPI is kept artificially low by the government so they can keep Social Security and other entitlements low. Your paper is worthless. Learn more at treasury.gov where they provide the definition of a federal reserve note as nothing of value at all. The only value the dollar has is your continued faith in it. Good luck, you’re gonna need it.

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