We have continued to see a drastic increase in prices over the past couple of months, as the March Consumer Price Index report showed an annual increase of 8.50% and we just received April’s 8.30% report. This slight slowdown could potentially signal that the worst is behind us and that March was the peak in inflation for the current cycle. However, the inflation rate fell only slightly and could very well bounce back above the March levels based on several reasons. Our biggest concern is the ongoing geopolitical issues in Russia-Ukraine and the impact these tensions will have on the price of oil and gas. Energy components account for a large portion of inflation data, so increased pressures on these commodities could cause inflation to ascend to a new high.
Rising Costs and Household Budgeting
We recently discussed the current inflationary environment in our Gas Price Blog and the importance of household budgeting. Households see the impact of inflation at the pump and inside grocery stores. These increased prices should be accounted for in your monthly budget to remain on track for your spending and saving goals. Companies are struggling with their profit margins due to the increasing cost of goods sold. Increased prices for raw materials, shipping costs, etc., continue to shrink corporate margins and reduces profitability. Many companies will pass on these increased costs to the consumer through a price increase of the end product or service. And in turn, employees will be looking for pay increases to cover the increased costs in their household budgets. This vicious cycle between wage inflation and end-product inflation will result in higher and higher prices as corporations try to maintain control over their profit margins.
How Inflation Affects the Stock Market
High inflation is obviously significant for investors allocated to raw materials and associated companies. This year, energy has been the top-performing sector as oil has benefited enormously from the record inflation levels. These energy companies typically yield higher profits as the raw material price increases. Many corporations will struggle with the inflationary effect on their profit margins, but energy companies will benefit from this factor. Consumer discretionary spending is likely to decline while the stock price of sectors such as consumer staples and utilities should benefit from their consistent track record. Consumers will still need to buy grocery and household items and pay their monthly gas and electric bills. Small and Growth focused companies typically struggle the most with inflation since they do not have the pricing power of their larger competitors.
Also, inflation-protected securities have been a great alternative to traditional bonds. Inflation tends to drive interest rates higher, which has a negative impact on bonds. Old bonds with a 2% interest rate are not as attractive as a new bond at a 3% rate. This illustrates how bonds prices typically decline as interest rates rise due to inflation. However, inflation-protected bonds include a component for inflation data. As inflation rises, the bond coupon payment will increase in kind. Higher inflation means a higher yield for the investor.
Get Help From an Advisor
It is important that we note the above information should not be portrayed as investment advice. We mentioned that inflation data has potentially peaked in March, which means the investment performance moving forward may also be shifting. We always recommend consulting with your personal financial advisor before making any major financial decisions.
Preparing for Rising Costs: Key Takeaways
- Record inflation is causing individuals and families to reevaluate their monthly budgets to account for rising costs.
- Wage inflation typically follows commodity inflation since consumers need extra income to pay for the increased prices.
- Inflation mainly affects the cost of raw materials, but these costs often get passed on to the consumer in the form of end-product price markups.
- Some investments are designed to perform better during high inflation environments, and some investments will benefit from the increase in prices.
Have More Questions?
If you have any questions about how inflation may affect your investment portfolio, taxes, our 401(k)-recommendation service, or anything else, please call our office at (586) 226-2100. Please feel free to forward this commentary to a friend, family member, or co-worker. If you have had any changes to your income, job, family, health insurance, risk tolerance, or overall financial situation, please give us a call to discuss it.
We hope you learned something today. We will love to hear any feedback or suggestions if you have any feedback or suggestions.
Zachary A. Bachner, CFP®
with contributions by Robert L. Wink, Kenneth R. Wink, and James D. Wink.