Inflation is one of the biggest challenges other than the pandemic. Inflation results in the price rise of essential products and reduces the quality of living. You may not be able to afford few products like before because inflation reduces the purchasing power of your currency. It can also affect mutual fund investments. That is why it is imperative to calculate inflation before investing in mutual funds.
How inflation affects mutual fund investments?
The returns generated through investments in mutual funds don’t matter unless there is a correlating inflation figure. For instance, you spend ₹30 on your favourite snack, and 10% is the annual inflation rate. Your snack will cost ₹33 next year based on the inflation rate. Hence, the snack is not affordable unless your income rises at least by 10%. Thus, Inflation rates are crucial in calculating the real rate of return. A mutual fund scheme that offers an 8% return against a 9% annual inflation rate isn’t helpful because the real rate of return is -1%.
How to calculate inflation?
The inflation rate is calculated with the help of the CPI, i.e., the consumer price index. CPI is the change in the price of goods and services by considering their weighted average. To determine the CPI, use the following formula:
CPI = (Cost of Fixed Basket of Goods and Services in Current Year/ Cost of Fixed Basket of Goods and Services in Base Year) *100
Calculate the inflation rate after determining the CPI. The formula for calculating inflation is:
Inflation = ((CPI x+1 – CPIx)/ CPIx))*100
Please don’t be intimated by looking at these formulas. Nowadays, you can use an online inflation rate calculator that has changed the way we calculate investments.
What is an inflation calculator?
Inflation calculators are free to use and easily accessible. They compute the impact of inflation on your purchasing power. More importantly, an inflation calculator indicates the worth of your savings in the future. Moreover, it is easy to use these calculators. Here is how they work.
How do these calculators work?
Follow these three steps for using an online inflation calculator. The steps are:
- Setting the current investment amount
- Enter the inflation rate
- Modify your investment horizon
These three steps will show how much you will accumulate through your current investment amount. For example, you currently are investing ₹2000. Your investment horizon is 20 years. If the inflation rate is 12% and the cost rises to ₹17,293, you would’ve accumulated ₹19,293.
How to overcome inflation?
Inflation will have a permanent presence in the economy. Despite all fiscal policies to control inflation, it is ultimately beyond the government’s control. Hence, you must prepare well in advance to combat inflation. Plan your finances effectively and invest prudently. Doing so might help you enjoy inflation-beating returns. For example, while mutual funds may provide reasonable returns, they also come with varying risk levels. Therefore, you must ascertain your risk tolerance level apart from your investment horizon. Other than risk appetite and investment horizon, you should also know the required investment amount. In case you don’t, don’t worry. Use a free online India inflation calculator to learn the amount you should invest over time.
