Long-term financial goals such as funding your children’s education, your children’s marriage, purchasing a home, or planning for retirement are significantly influenced by rising inflation. As prices increase, the purchasing power of the rupee diminishes.
Consequently, inflation can undermine your financial planning unless it is factored in from the outset. For investors, inflation can be detrimental as it erodes returns. The higher the inflation rate, the greater the impact on your investment returns.
For instance, if you anticipate your portfolio to yield an 8 percent return after taxes over the long term, but inflation also averages around 8 percent annually, your real return effectively becomes negligible. Thus, when strategizing your investments to meet your financial goals, it is essential to incorporate inflation considerations.
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For instance, if you are saving for your child’s education, which currently costs Rs 25 lakh, the projected cost could rise to Rs 70 lakh in 21 years, assuming a 5 percent inflation rate. Therefore, you would need to invest to accumulate Rs 70 lakh rather than Rs 25 lakh.
Similarly, when planning for retirement, it is crucial to first assess your current monthly expenses. By applying a 5 percent inflation rate, you can estimate how much your monthly expenses will increase by the time you retire. This calculation will provide you with the inflated monthly expenses necessary to maintain your standard of living during retirement.
Subsequently, determine the amount you need to begin saving from now until your retirement age in order to accumulate a fund that can provide you with the adjusted monthly sum. Without a clear understanding of the precise monthly savings required, you should refrain from engaging in retirement planning and savings.
When investing towards a specific goal, many individuals tend to focus on the current value of that goal. For instance, if the cost of a child’s education is Rs 12 lakh today, a parent may overlook the projected inflated cost in 15 years and decide to save a fixed amount, such as Rs 2500 per month expecting a 12% return, for this purpose.
However, when considering an inflation rate of approximately 7 percent per annum (with education inflation often being higher), the initial Rs 12 lakh could escalate to around Rs 33 lakh in 15 years.
If the investor had opted to save Rs 6500 monthly instead of Rs 2500, he would have successfully reached the target inflated amount of around Rs 33 lakh (Rs 32.79 lakh).
Inflation, thus, poses a significant threat to your financial objectives, gradually distancing you from achieving them. To combat this, it is essential to account for inflation from the outset to mitigate its effects. The moment you commence your investment journey, ensure that inflation is factored into your strategy and adjust your investments accordingly.
