5 tips to protect savings in times of inflation

The rise in inflation to 4.62% in October has resurrected an old enemy of Indian savers and investors. Inflation, a generalized increase in prices, eats into your standard of living and the value of your savings. Mint lists five ways to protect yourself from inflation.

Are long-term fixed deposits good for you?

Long-term guarantees offer a lot of reassurance, but there is erosion of wealth factoring in inflation. Investments in long-term products need to be thought through in terms of real returns. For instance, if a 10-year fixed deposit offers 6.75% interest, the post-tax return works out to 4.64%, assuming the highest effective income tax rate of 31.2%, excluding surcharge. If you deduct this corpus by the current inflation rate (4.62%), the real rate of return is 0.02%. For long-term investments to work, you need to get a positive real rate of return of over 1%. Keeping your long-term exposure to guaranteed products low helps when inflation is rising.

How can you inflation-proof your rent?

As a landlord, a multi-year tenancy agreement, which fixes the rent beforehand, can leave you poorer when inflation inches up. For example, a rent of ₹20,000 a month for three years will not work. Hence, include an escalation clause in your rent agreement to make it inflation-proof. As a tenant, with prices of essential commodities shooting up, you would want to keep your rent outgo to a bare minimum. In such a situation, it maybe tough to negotiate with your landlord, but make sure that in a low-inflation regime you keep your rents low by negotiating on the annual escalation.

Do equities offer a reliable investment option?

Returns from equities in the long term are tied to corporate earnings. These earnings eventually adjust to inflation as companies hike prices of goods and services they provide. In the long term, you will not suffer from rising inflation as an equity investor. However, in the short term you might experience volatility. So, stay invested for five years at least.

What about gold and international stocks?

Gold is a good long-term hedge against inflation. The precious metal’s supply is limited, hence its price rises along with a general price rise in the economy. But you should not allocate more than 10% of your portfolio in gold. Investing in international stocks or mutual funds that invest in overseas markets can give you higher inflation-adjusted returns as these investments are tied to foreign currencies. Foreign currencies rise in value against the rupee when inflation in India exceeds the inflation in the foreign country.

Should you prepay your home loan?

Interest rates tend to follow rising inflation, hence your home loan will eventually cost more when consumer price index inflation shoots up. Moreover, RBI has made it mandatory for banks to link home loan rates to external benchmarks such as the repo rate. This will make the transmission of higher rates to you faster. Prepayment of your home loan will allow you to sidestep higher interest rates. But prepayment may carry some charges, so weigh the costs and benefits of repaying your loan early.