The scourge of inflation has returned with a vengeance! Across the Eurozone, average inflation is running at over 4% and is rising with each passing day. In Germany, inflation just hit the at 6% mark. For a very broad swathe of our society, inflation will have an immediate impact. For those in retirement and on fixed incomes, inflation will have a devastating impact on the value of their money as it reduces their buying power significantly. The longer high inflation remains, the more buying power their fixed income is impacted by. Aside from those in retirement, savers will also be impacted as their monies held on deposit, earning little or nothing by way of interest income will be eroded in value. And even those in their prime working years, with pension funds (defined contributions) that are not invested for growth will see an erosion of value over time. For this group, they must ensure they monitor their pension investment combination to include sufficient growth into the fund that can at a minimum negate the impact of inflation.
2. Stock market valuations
Stock / equity market valuations are potentially ‘frothy’ at present. Even leading investment fund managers are now raising a flag on equity valuations. Whether or not there is any significant correction in the broader market is completely unknown but even modest corrections can have an immediate impact on financial wellbeing. For those with pension funds that are equity-heavy, with a high concentration of equities in their portfolios, some rebalancing towards lower risk assets would act as a counter to the risk posed. Outside of the pension landscape, those with individual equity holdings either on an individual basis or in ETFs / managed funds may want to consider less risky assets for the time being, or at least until we have a better understanding of the current inflation wave.
3. Interest rates
Across the Eurozone, interest rates have been at an all-time low. This has been great news for mortgage holders and especially those with tracker and standard variable rate mortgages. But as inflation appears to be more aggressive than many central bankers prefer or even considered, with each week, the calls for a rate increase gets louder and louder. Ultimately, if inflation does not reduce naturally, it will be the job of the central bankers to take action. They have many tools at their disposal but the most significant is to raise interest rates. This would have an immediate impact on millions of people across the Eurozone that have a variable rate mortgage. For each quarter-point increase in rates, the cost of a €300,000 mortgage increases by about €450 per year. Other variable borrowing costs would also increase.
In retirement – for those on fixed incomes, in order to maintain a household, it is important they review their household income and expenditure regularly and switch providers to ensure they are getting the best value across a range of services, including insurance, claiming back on any qualifying tax relief and much more.
Investment & pension funds – it is important this group continue to monitor the overall risk allocation comprising their investments to counter the risk of equity market froth.
Mortgage holders – this group should consider if switching to a fixed rate loan may be the more beneficial option for them. If they have a tracker mortgage, any value of switching would be extremely difficult to achieve but for those with a standard variable rate loan, switching could make a lot of financial sense. And with house prices experiencing a surge in recent years, many people should be in a far better place financially in respect to their loan-to-value position.
Frank Conway is founder of MoneyWhizz