Perhaps one of the biggest enemies of your investment portfolio is rising inflation. Inflation is when the cost of goods and services you buy rise in price. For example, if a can of Coke costs $1.50 last year and $1.65 this year then that +10% increase is inflation. The actual inflation metric that the government publishes is more complicated. This is because many things are purchased beyond Coke, so inflation calculations combine a diverse set of products and services according to their importance to get to one average inflation number. For example, food has a 13.8% weighting out of the 100% total, indoor plants and flowers have a much lower 0.1% weighting. The price change of each component is monitored by the Bureau of Labor Statistics who report on US inflation monthly. At the extremes over the past year, the price of televisions fell -15% but the price of certain footwear rose +8.3%. Most products stay relatively close to the average inflation rate, which is currently approximately +2%.
Inflation matters for you as an investor, because your investments are priced in dollars. If your Apple stock is trading at $100 in your retirement fund, and you plan to drink a lot of Coke in retirement, then your Apple stock is less valuable if the price of a Coke is $1.65 rather than $1.50. This is true even if the price of Apple stock is unchanged. You can now buy six fewer cans of Coke with your Apple investment than you previously could. That’s why inflation hurts you as an investor, your investment dollars are worth less when you ultimately come to spend them if prices rise over time.
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