Rising inflation and changes in monetary policy, like an increase in the Official Cash Rate, affect share investments. Inflation erodes purchasing power, potentially reducing real returns. Higher inflation often lowers share prices due to reduced consumer confidence, increased borrowing and input costs, and lower earnings expectations. Switching from growth to conservative funds during inflation requires caution, as conservative funds may suffer losses. Consult a financial advisor to align your investment strategy with your goals and consider diversifying with bonds for stability during inflation.
___________________________________________
“With the OCR predicted to go up and inflation to increase, I’m worried how that will affect investment funds and kiwisaver. Currently, my money is in growth funds, but is it a good idea to switch to balanced or conservative until things cool down?”
(Original question on Reddit)
___________________________________________
Rising inflation and changes in monetary policy, such as an increase in the Official Cash Rate (OCR), can indeed impact your share investments, including investment funds and KiwiSaver accounts. The specific impact and whether you should adjust your investment strategy depends on various factors, including your financial goals, risk tolerance, and investment horizon.
Impact of Inflation on Share Investments
Rising inflation can impact share investments as it erodes the purchasing power of your money over time. If your investments do not keep pace with inflation, the real value of your returns may decrease.
In general, inflation brings down share prices because consumer confidence (and consumer spending) tends to decrease. Higher inflation is usually viewed as a negative for stocks because it increases borrowing costs, increases input costs (materials, labour), and reduces living standards. It also reduces expectations of earnings growth, putting downward pressure on stock prices.
Impact of increasing the Official Cash Rate (OCR)
The OCR is a tool the Reserve Bank uses to influence economic activity and inflation. People are encouraged to save rather than spend when the OCR increases, as they can expect good returns on their investments. With spending reduced, the economy slows, and so too does inflation.
Switching Investment Funds
As for switching from growth funds to balanced or conservative funds during periods of rising inflation, it’s important to note that conservative funds and supposed “low-risk” bond funds have been absolutely ravaged by inflation and the change in the interest rate cycle – and with market interest rates going up, these assets are revalued at a loss.
Shifting from a growth or balanced fund to a conservative fund may ‘lock in’ your losses, which can be an expensive mistake. Higher-risk funds can fall faster in market downturns, but they can recover faster, too – and over the long term, history shows us that they generally recover those losses (and continue to grow).
It’s always a good idea to consult with a financial advisor before making any major changes to your investment strategy. Suppose you are concerned about the impact of inflation and rising interest rates on your portfolio. In that case, it may be wise to review your investment strategy, possibly with the help of a financial advisor, to ensure it aligns with your financial goals and risk tolerance.
Moving to a more conservative or balanced fund is an option, but it should be done thoughtfully and with a clear understanding of your objectives. Additionally, during periods of high inflation, it can be helpful to diversify your portfolio across more balanced and conservative investments, such as bonds, to provide stability in volatile markets. Also, consider dollar-cost-averaging by regularly buying when the asset prices go lower to secure a lower average.
Hope this helps.
Regards, Clive Fernandes (Financial Adviser)
Director – National Capital
Disclosure: I am the director of National Capital, a KiwiSaver advice firm. The information in this post is only general in nature and is not personalised financial advice. Please contact us if you want financial advice.
