Prices Are Increasing: Are You Ready For Inflation?

Of late, one cannot escape the price spikes happening in many aspects of our lives, attributed to congestion in the global supply chain, the resumption of economic activities now that countries start opening up and pent-up consumer spending with higher vaccination rate.

Prices of oil, building material, food, cars and housing have rocketed.

One of our neighbours in Holland has had to halt the addition of more room to his house as prices of raw material, particularly wood, have gone up by as much as 40% over the past few months. He has not expected such a drastic spike when setting his construction budget so now he has to sit out and wait…and winter os looming. Tough luck indeed!

Adding fire to fuel, energy crises are brewing in Europe, China, India and the UK. China has started implementing rolling black-outs for households to ration power supply and many manufacturers are cutting production with some ceasing operations altogether, further crippling global supply chains and adding pressure to escalating prices.

Watching the sequence of events unfold, I start to think about how the situation can pan out on a personal front and more importantly, how to contain or at least minimise the impact. 

So here are what I’m doing in preparation for a nasty inflation.

1. Mortgage Rate

The biggest slay was fixing a variable mortgage rate on one of our properties in Holland for which we have enjoyed very low rate over the past 12 years, hovering mostly below 1%. A decision was taken 3 weeks ago to switch to a 15-year fixed rate at 1.38%. Although this means paying more than double the variable monthly repayment, much comfort comes from knowing that it will not go any higher for the next 15 years. Besides, 1.38% is a damn good rate! 

The idea is to avoid having to fork out significantly more once the Euribor rate spikes. And yes, I expect interest rate will rise due to the influx of liquidity pumped into global economies. Money has to go somewhere, even after setting aside savings and investment, so prices will be pushed upwards.

See the impact on mortgage repayment with every % increase of interest rate:

A scenario where mortgage rates are between 4%-5% is not unthinkable as that was the range in 2010 when I bought my first investment property in the Netherlands. And during the oil crisis that started in the 70’s and peaked in 1981, mortgage rates shot up as high as 12% with inflation hovering between 7-9%, causing some economies to plunge into severe recession.

If you do not have a have variable interest rate, it is still worthwhile to explore re-financing if your mortgage term is expiring soon, before the rate hike becomes steep. Make sure to include penalty or early repayment charges that may be incurred to fully assess the worthiness of re-financing. 

And for those buying into houses, especially for own occupancy instead of investment, it is pertinent to take into account the likelihood of mortgage rate increment to fully assess affordability.

2. Buy Big-Ticket Items

Inflation is literally the decay of money, eroding its value as goods get pricier so it makes sense to buy that big-ticket item that you have been hankering over such as new TV, laptop, refrigerator or car. The rise of energy prices will almost certainly lead to pricier goods. 

With this in mind and the fact that we’re moving from east part of Holland back to Amsterdam, we splurged on a canal boat recently. One of the joys of living in Amsterdam is its scenic waterways meandering right across the heart of the city. And winter season is a good time to buy boats and convertibles as prices tend to be lower while vice versa during spring and summer. 

3. Invest In Stock Market

Cash holdings beyond the necessary emergency fund should be invested in inflation-hedged assets such stocks and rental property. Historically, both asset classes have outpaced inflation rates. When selecting the stocks, make sure to buy into companies with pricing power so they can increase prices accordingly to protect profitability as a result of raising material costs. 

Though I favour REITs as a stable and good income generating asset, choosing the right REIT is important due to their high sensitivity to interest rates, affecting profitability. REITs with lower leverage ratio and longer term fixed borrowing costs are preferred, to weather expected spikes. 

4. Rental Property

Buying property financed with mortgages during inflationary period reduces the real value of borrowing, hence making it a good debt. One of the drivers of higher inflation is attributed to the fact that the US government will need to allow inflation to rise in order to shrink its national debt that has been growing from the amount of currency printed over recent years. The Fed has already signalled 2 interest rate hikes by 2023. 

Investing in a rental property has triple advantages when inflation hits:

• Reduces debt amount in real term
• Higher equity from increased market value
• Rental income adjusts accordingly when lease is renewed

Go for fixed term mortgage rate, though, to mitigate exposure when interest rates are jacked up. 

5. Gold

Since time immemorial, gold has been the go-to asset when prices go up. Gold has held its value over time, due to limited supply, is affordable and less volatility compared to new asset classes like cryptocurrencies or art. The disadvantage in gold is that it does not pay any interest during holding term so value is only realised when sold.

Instead of buying physical gold, it is also possible taken position in gold ETFs, which is an indirect way to gain exposure to this asset. 

6. Emergency Fund

While it goes against my principal of holding more cash than necessary especially when inflation comes, I have topped up my emergency fund to keep its original value for meeting unforeseen needs and expenses. I added 10% to my cash holding and am systematically investing amount above that.

7. Diversify Across Currency

I have re-allocated my portfolio exposure across 3 currencies, namely Euro, US and Singapore dollars to spread concentration risk should inflation affect one currency disproportionately. 70% of our exposure is in Euro as the bulk of our investment properties are in Europe so I have been making more investment into Singapore income stocks and US growth stocks. 

 

 

Diversification across assets is also a viable option if your portfolio is in one currency since inflation has varying effect for different asset classes. This is the proverbial counteraction against betting on the wrong horse. 

8. Extra Income Stream

Last but not least, adding an additional income stream is always a good defence. Strengthening one’s armour boosts confidence and gives better peace of mine, instead of feeling helpless and hopeless. I am particularly partial to passive income, as in addition to fortifying one’s financial resources, it is a great way to build wealth faster and gives more resilience during challenging times…and challenging times are ahead indeed.

“Courage is one step ahead of fear” ~ Coleman Young

 

Peace,

Savvy Maverick

(Main image credit: Rajiv Perera on Unsplash

Disclaimer: The views expressed here are drawn from my own experience and do not constitute financial advise in any way whatsoever. Nothing published here constitutes an investment recommendation, nor should any data or content be relied upon for any investment activities. It is strongly recommended that independent and thorough research is undertaken before making any financial decisions, including consulting a qualified professional.