… is not really a secret at all.
Nevertheless, still not enough of us are doing the obvious:
Investing in an asset class that has the highest chance of beating the inflation rate.
Inflation is the opposite of a gift that keeps on giving.
When real interest rates are negative (= inflation rate is higher than interest rate), cash is trash. Negative real rates act like a tax on savings. Inflation eats away at your money and is in effect a tax by the (unelected!) central bankers on your hard-earned money.
Under those circumstances, it looks like many of us have found an alternative—we simply spend the money. And that’s what they (governments, central bankers, and corporations) want. As a result, they prosper, but the spenders among us don’t.
I, however, see another alternative: Investing your money in businesses. Not in just a few, but in many. And the stock market is the ideal venue for that.
How much would you need to make to safely beat inflation?
The officially communicated inflation rate is not useful as its composition has changed multiple times. An example: “Hedonic quality adjustment removes any price differential attributed to a change in quality—by adding the value of that change to the price of the old item”. For example, if earlier methods of calculation had been continued over the past four years in the USA, the real inflation would have been in the 5 to 10% range.
Since 2002, the Big Mac has risen in price at nearly three times the rate of the overall inflation.
Naturally, inflation rates differ country to country, and from year to year.
Let’s just say the average is around 7 to 8%.
- Bank Savings/Fixed Deposits (the popular default of lazy or don’t-know-better-people): I guess there are not many countries where you could have earned more than 2%, over the last few years.
- U.S. Treasury Bills (short-term bonds issued by the US government): 3.7% (average from 1925 to 2005)
- Longer term more risky bonds: 5.5% (average from 1925 to 2005)
- S&P 500 index fund: 10.4% (average from 1925 to 2005)
Hmm, looks like the stock market is the only one to beat inflation (I do not cover properties here as the entry hurdles are comparatively higher than for the above asset classes).
But—I hear you say—the stock market is so volatile!
Yes, that might be true; however, the gravity of stocks is to move up because Growth is the Most Natural Thing in the World.
I don’t mean to get too philosophical, but it is important to understand that advancing forward is a prime driver of the human condition. This innate desire to do things better, leads to improvements in productivity and our standard of living.
It all boils down to: Human advancement = higher economic activity = higher profits = higher share prices.
The above equation proves why the natural order of things is for the stock market to move higher. Of course I don’t mean that stocks will go up every day, week, or month. But in the long run, they will.
And you are investing for the long run, right?
So why do you check your stocks twice a day, but your cholesterol twice a decade? The former is killing your emotions and the latter is killing you!
Let’s get down to business: Historically, statistically, and emotionally, the best option to participate in the stock market is to invest regularly in Exchange Traded Funds (ETFs) and stick with it.