Meanwhile, rents also continue to climb According to housing data provider Zillow Research, U.S. rent averaged $1,888 per month in September, nearly 13% higher than a year earlier.
Outsourcing manufacturing to China and other emerging markets has helped lower labor costs and keep a lid on U.S. inflation for many years.
But the COVID-19 crisis revealed the risks companies took in exchange for low-cost goods and labor. Shipping bottlenecks and backlogs combined with U.S. labor shortages have left a record number of container ships waiting to unload their cargo at U.S. ports.
Now, many firms are considering bringing their manufacturing and other operations closer to home—a trend likely to drive prices higher. What’s more, onshoring is also a process that will take many years to complete.
3. Energy Prices
Energy prices have powered up worldwide in recent months, as demand saps supply. In the U.S., energy prices rose 30% year over year, according to the October 2021 CPI. This same report showed gasoline prices jumped 50% and natural gas rose 28%.
Against this backdrop, heating costs are set to surge this winter compared with 2020-2021. According to the U.S. Energy Information Administration, propane costs will rise by 54%, heating oil by 43%, natural gas by 30% and electricity by 6%.2
Higher energy prices affect much more than consumers’ heating bills and gasoline costs. They trigger higher prices for food, electronics, airline travel, public transportation and many other items. And ultimately, higher energy costs can stifle consumer spending and weaken overall economic growth.
4. Monetary and Fiscal Policy
We believe a shift in policy framework from the Fed and the federal government will contribute to higher inflation over time.
The pandemic highlighted this change. The Fed and Congress combined have pumped more than $9 trillion in aid to individuals, municipalities and corporations facing COVID-19-related hardships.3
Fiscal and monetary policy worked in tandem to increase the money supply and deliver direct payments to offset loss of income and stimulate economic growth. In previous financial crises, policymakers forced yields lower, making low-cost debt the preferred path to economic recovery.
In addition, Congress recently approved another $1.2 trillion in federal spending when it passed the Infrastructure Investment and Jobs Act in early November.
Rising costs are a consequence of all this spending. Inflation becomes a greater risk when the economy has more dollars chasing fewer goods.
How Can you Prepare for Elevated inflation?
Persistent inflation can erode your portfolio’s purchasing power over time. Even if inflation settles at the low end of our expected range, your long-term buying power remains at risk due to inflation’s compounding effects.
For example, a consistent annual inflation rate of 2.6% would cut the value of $1,000 to just $598 in 20 years. You can use American Century Investments’ inflation calculator to see the effects of different inflation rates over time.
Review Your Financial Plan
We recommend you first review your financial plan, keeping a few key questions in mind:
- What adjustments do you need to make to your budget to absorb higher costs over time?
- What inflation rate are you currently using for investment planning?
- Should you adjust your expected portfolio withdrawal rate in retirement or change your expected retirement date?
- Can you increase your savings rate to account for higher inflation?
- Does your investment mix fit a higher-inflation environment?
Consider Assets With Inflation-Fighting Potential
If you answered “no” to that last question, consider a mix of investments designed to deliver return potential that surpasses the expected inflation rate.
Common inflation hedges include:
- Stocks. Perhaps the most popular inflation hedge, stocks seek long-term growth that surpasses the inflation rate. Additionally, rising prices may mean rising profits for companies, which can boost their share prices.
- TIPS. Treasury inflation-protected securities (TIPS) offer interest rates indexed to the inflation rate. So, when inflation rises, so does the interest payment on TIPS. And compared with core bonds, TIPS have historically offered better inflation protection. See American Century Investments’ recent article Is Your Portfolio Prepared for Inflation?
- Real Estate. Property prices and rental income typically rise along with inflation. You can capture these potential gains by purchasing real estate directly or by investing in real estate funds or real estate investment trusts (REITs).
- Commodities. Select commodities, including energy, raw materials and metals, are generally considered inflation hedges, because they tend to experience price gains as inflation rises. But it can be inconsistent ride. The broad commodities market has demonstrated volatile performance, sometimes sharply outpacing inflation, sometimes lagging it.
As Figure 4 illustrates, each of these asset classes has delivered historical returns that surpass the prevailing inflation rate. However, those with higher-risk profiles have experienced much more volatility than others. We believe the best way to protect against inflation is to maintain broad, diversified exposure to these asset classes.