How to inflation-proof your portfolio

There is a growing feeling that UK inflation could pick up dramatically over the next few years. You can see this from the increase in the five-year break even rate, which is based on the yield difference between conventional gilts and those linked to the RPI. In August this hit a 13-month high of 2.6%.

One of the main drivers is the weak exchange rate. The pound is down around 10% against the US dollar since the EU referendum and if it stays at this level it is likely to mean a significant increase in the cost of imports once translated into sterling.

Another cut in interest rates is a distinct possibility and this would be expected to send the exchange rate even lower. Negative real interest rates – interest rates that are less than inflation – could also be inflationary in their own right as in theory it would discourage people from saving, although at these low levels it is difficult to predict.

The problem for the government is the high level of national debt, which can only really be serviced if they can generate enough growth and inflation to reduce its real value. This suggests that governments will do whatever it takes to get inflation back to more normal levels and investors need to make sure that they are well prepared….

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