Inflation-proof investment: How can I protect money from inflation?

Shares as winners of inflation

Let’s start the analysis with shares. Shares belong to the category of tangible assets and are generally limited in the quantity issued. Although stock corporations can issue new shares, this tends to happen in exceptional cases.

The great advantage of shares in times of high inflation is that public limited companies can simply pass on price increases to customers in the form of price increases for their own products and services. This protects the company from a deterioration in margins.

Example: A vacuum cleaner manufacturer from Germany buys raw materials and unfinished products from suppliers, and these suppliers increase their prices by an average of 10% at the beginning of the year. In order to compensate for the price increases in procurement by reducing its own margins, the company decides to increase vacuum cleaner prices by 10%. As the vacuum cleaner competition is highly likely to follow suit and also increase prices, our manufacturer does not lose any customers.

Shareholders benefit from higher sales and profits in the next annual financial statements, which is reflected positively in the share price. If the investor now holds shares in the vacuum cleaner manufacturer, inflation has passed him by unnoticed, as the value of his portfolio has increased accordingly. In general, private investors can also buy ETFs or funds with inflation protection in addition to individual shares – protection against inflation is implicitly included.

Which shares benefit from inflation?

In principle, those companies that either

• have low additional purchasing costs due to inflation (e.g. SaaS companies) or
• can easily pass on the additional costs to consumers and buyers (e.g. mining companies, commodity producers)

In times of inflation, however, investors should stay away from companies that have hardly any opportunities to increase their prices, for example because the competitive situation is intense or production is outdated and inefficient. A broad diversification across various ETFs provides investors with good protection.

Real estate: inflation protection

In 2021, property prices in Germany rose by an average double-digit percentage compared to the previous year. At +11.5%, the increase was thus the highest since data collection began in 2000. In comparison, residential property prices in 2022 rose by an average of 5.3% compared to the previous year. According to Destatis, the inflation rate last year was 7.9%. Private investors who bought and rented out a residential property in 2021 were thus able to achieve an average performance of more than 7% due to the increase in value alone.

However, real estate is not only protected against inflation due to the increase in value, but also benefits from the fact that rental income is also protected against inflation. If the landlord is not already bound by an index-linked rental agreement, which automatically increases the rent in line with inflation, he can still adjust the rents upwards at certain intervals, which are set by law. If inflation rises, the rental income also rises.

Because apartments for rent are often financed with a loan, there is a third huge advantage for real estate investors in times of inflation: Loan terms are usually fixed for 10 years, sometimes even for 20 or even 30 years. In addition to the devaluation of the debt (inflation automatically pays off for the landlord, so to speak!), the interest payments become less and less significant, remaining unchanged as initially stipulated, while the income continues to rise due to high inflation.

Investors consider real estate to be the asset class with the best protection against inflation. In terms of the often-used “concrete gold” comparison, it is also one of the safest investments at present.

Gold is inflation-proof

Gold is not a suitable investment in every phase of high inflation. There are two different cases:

• High inflation, high interest rates: gold’s inflation protection function does not work well
• High inflation, low interest rates: gold’s inflation protection function works well; gold price rises

In the first case, real returns are positive due to high interest rates, as was the case in the 1970s. As gold does not yield interest and only generates returns through appreciation, investors incur opportunity costs, as the same amount of resources would generate interest in other asset classes. Under these conditions, gold therefore does not present a good picture.

In the second case, real yields are strongly negative. Interest rates are kept artificially low and do not curb inflation. This was the case in 2022, before key interest rates were raised. As there are hardly any alternatives to earning interest, investors have fewer alternatives available. If the economy then slows down, the flight to “safe” assets such as gold is perfect.

Disadvantages of gold compared to real estate

• The strong dependence on the real interest rate environment
• The fact that gold is an unproductive asset that does not generate any income in the form of interest, rental income or the like

Bitcoin inflation hedging

Bitcoin is a very risky and highly volatile investment compared to gold, real estate and shares. But can investing in BTC be described as inflation-proof? In a way, Bitcoin is the antithesis of our fiat money system: The maximum number of Bitcoins is limited and cannot be changed. It is as if central banks such as the ECB and FED had no way of firing up the printing presses to create fresh euros and dollars in times of crisis.

This artificial limit, which is immutably engraved in the Bitcoin code, is what makes BTC investments so popular with advocates of a controlled money supply. The basic logic is obvious: If the amount of euros and dollars in the world increases, the amount of bitcoins, however, remains the same. If the number of bitcoins grows more and more slowly until 21 million bitcoins are reached, the price of a bitcoin becomes a function of increasing demand. The higher the demand, the higher the Bitcoin price.

This mechanism can be influenced by many different things or cause strong volatility in the short term:

• Regulation of crypto
• Prohibitions
• Security gaps
• Declining adoption if, for example, environmental aspects weigh heavily on the reputation of Bitcoin and cryptocurrencies

Bitcoin supporters, on the other hand, are convinced that the price of Bitcoin will depend on the prevailing inflation and currency devaluation in the long term. From this perspective, the trend towards ever looser monetary policy, more and more debt and an increasing money supply plays into Bitcoin’s hands.

FAQ

What is the best inflation protection?

Investments in tangible assets can be regarded as one of the best hedges against inflation. Tangible assets such as real estate, shares or gold are limited in quantity. Inflation is caused by a rising money supply or an increased velocity of money in circulation. More money meets a constant quantity of material goods. Rising prices are the consequence.

What can I do against inflation?

The most important thing is not to leave money you don’t need immediately lying around in cash or in call money or current accounts, but to invest it in an inflation-proof way.

Which investments are inflation-proof?

Inflation-proof investments include shares, ETFs, funds, rented real estate (investment property) and gold.

What is inflation protection?

Inflation protection is the ability of a commodity or financial product to rise in value in line with rising inflation.