Inflation is just another risk. But it's a very special risk.
.... prices going up. Therefore the amount that money can buy goes down. Therefore the value of money goes down. If you chose to invest in cash (or bonds) your investment is subject to inflation risk.
We mention this here, under the 'simple investing' module, because it is so easy to forget. All our instincts towards financial risk are geared towards preserving, or making, money. That is wrong. We should be trying to preserve, or make, value.
We don't need money. We need the things that money can buy.
So what do we do?
There is a way of measuring returns in terms of value instead of money. And this is the measure you should always use.
We think this is too difficult for your first run through Simple Investing. You can prove us wrong by eventually following the link to Real Returns in the Advanced Investing module. For the time being, remember the following:
- With inflation, money will buy less tomorrow than it does today
- If you put your savings in money (cash or loans), and inflation persists, the amount you can buy with your savings when you come to spend them will decline.
- If you put your savings in 'real' things - businesses or commodities or antiques - and inflation persists, the money value of these 'real things' will tend to rise.....
- .....but some things are more 'real' than others. Inflation (and its opposite - deflation) has profound economic consequences that go way beyond the simple change of purchasing power of the pound in your pocket.
- If you use an adviser to help you with investment choices, make him explain the effect on them of inflation (or deflation).