South African consumer inflation for November came in at 5,5% on Wednesday, recording its biggest annual increase since March 2017, which adds to concerns about a new northern inflation ‘variant’ recently identified, first in the US and then in the EU and the UK.
Wednesday’s announcement by StatsSA about rising CPI inflation figures comes amid debate on whether the new northern ‘strain’ is transitory, or a real cause for concern.
The steep rise in US inflation, from 1,4% in January 2021 to 6,8% by November, caught many off guard. The rise in the Eurozone has been just as steep, from 0,9% to 4,9%. Whilst South African CPI inflation has increased only moderately from 3,2% to 5,5% over the same period, inflation has remained stubbornly above the 4,5% midpoint of the South African Reserve Bank’s monetary policy target range for seven consecutive months.
Local retirement savers, who have been burnt badly by inflation in the past, are asking: How contagious is the new strain, how easily can it cross borders, and will it impact my retirement prospects? The concern is justified because inflation has a reputation for making people poorer. Income growth tends to lag inflation, bracket creep in the tax tables nibbles away at pay increases and higher interest rates push up home loan repayments and depress asset prices.
The good news for retirement savers is that even if South Africa imports some offshore inflation, they can protect themselves by following a sensible saving and investment plan.
So how should savers address inflation in their retirement plan? The answer: not at all.
A retirement plan establishes a savings goal (what it will cost to fund retirement) and it calculates the savings rate (as a percentage of income) required to achieve that goal, based on projected investment returns.
The savings goal references current lifestyle (expenses and income). Although expenses are likely to grow with inflation so should income, which keeps the standard of living relatively constant.
Inflation affects the investment returns component of the plan. By stripping out inflation, however, we can see that different asset classes have delivered relatively consistent real (after-inflation) returns over time. It then becomes possible to model a savings and investment strategy using expected real returns without forecasting inflation.
Prices will keep going up, but the trend should affect key inputs of the plan equally over time.
Future returns are not guaranteed so it’s important to monitor real returns over periods of 10 years or longer and, if they fall short of projected real returns, increase the savings rate.
Importantly, the investment strategy should be linked to the saver’s time horizon. For those far off from retirement, this means investing in a low-cost, well-diversified high equity portfolio, ideally with index funds at the core.
Inflation poses a bigger risk post-retirement. The key is not to lock into a fixed income or invest too conservatively. Buying a fixed rate annuity is tempting because it offers a higher pay-out initially but the purchasing power of that income could easily halve in under 10 years.
Alternatively, those with a living annuity might want to invest conservatively for more stable returns. But this won’t provide the higher above-inflation growth needed to make savings last over an extended retirement.
These risks can be mitigated by buying an inflation-linked annuity or investing in a portfolio with a higher equity allocation as equities have historically delivered higher real returns over time.
The bottom line is there’s no need for retirement savers to worry about rising inflation. For one thing, it is not under their control. Also, it tends to feed equally through income, expenses and investment returns. But they do need to take care to ensure they stay protected post-retirement.
The content herein is provided as general information. It is not intended as nor does it constitute financial, tax, legal, investment, or other advice. 10X Investments is an authorised FSP (number 28250)