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Inflation in the mix

Adrian Lowcock
Adrian Lowcock

Although the Bank of England has put bank rate on hold for another month, there seems to be continued concern about inflation in the UK economy. What are the best investments to deal with inflation and stop the value of my savings being eroded?

With the current rate of inflation, you are going to see the value of savings eroded. Savings are not necessarily risk-free in real terms, which is something to be aware of.

What investments or savings to pick depends on two things, first, the investor’s attitude to risk and, two, what is the outlook for inflation.
People who want savings quite often do not want to take on any risk. If you do not need the interest and just want to get the money working for you, you are probably looking at a two or three-year bond. A two-year bond will pay around 3.7 per cent and the three-year bond will pay 4.15 per cent.

This is at least earning and staying ahead of the rate of inflation but it is the current rate of inflation. The key here is, in two years, where will inflation be? In three years time, it is even less certain.

The outlook on inflation is very unclear and the Bank of England typically under-estimates it and may have done this time. It is falling, albeit slowly, at the moment and in the short term we can expect that to continue slowly but when VAT goes up, we will probably see it spike again.
The big driver of inflation is probably imported inflation at the moment through falling currency. If it continues to fall, we would see inflation kept at those high levels.

Our view is generally that inflation is not going to be that much of a problem. It will probably stay above Bank of England targets for some time. We do not think inflation will be too much of an issue and anything outside three years is too far to tell.

The key for an investor or a saver is, if they have sufficient funds, they should really look to create a blend of different savings products.
For investors looking to take on a little bit more risk, they can get inflation-busting returns quite comfortably. You have got equity income funds such as Artemis income paying 4.9 per cent, which is way above inflation at the moment.

With the current weak economic growth, equity income is looking like an attractive option for growth investors as well.

Then the natural move is looking overseas. That is a growing trend because you have the accepted story that emerging markets and Asia Pacific are going to be really good strong growth regions. Going on from that, you have got the fact that they will be growing their dividends. Dividend growth in the Asia Pacific region is about 7 per cent at the moment and yields are about 3.5 per cent.

European income funds are also looking very attractive on the events of recent months.

The other key thing is to diversify. We probably will not see the performance from bonds that we saw in 2009 but there are still plenty of opportunities to get a good yield and some capital growth.

If you look at tactical bond funds or strategic bonds funds such as Invesco Perpetual tactical, you have got a yield of 5.5 per cent and that is net yield, so inside an Isa that would get grossed up.

For those who do not want to take too much risk, you are probably still looking at bonds because of the lower volatility. They have got a much better yield, you can still take out your income from it and if you have not used your Isa allowances, you can still wrap them up.

The final area to look at is commercial property. Property has had its rally but you are still getting a reasonable yield. If markets are going sideways, which they seem to be doing, then getting an income while you wait to see what happens is a good way to do it.

Adrian Lowcock is senior investment adviser at Bestinvest

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