Warren Buffett has been thinking about inflation for a long time. According to biographers, the legendary 90-year-old investor was exposed to the dangers of inflation by his Republican congressman father and has commented on the subject repeatedly throughout his career as an investor.
“We are seeing very significant inflation,” Buffett said at Berkshire Hathaway’s annual meeting last month. “We are raising the prices, people are raising the prices for us. And it is accepted.
Consumer prices jumped 4.2% in April 2021 from the previous year, the biggest increase since September 2008. The increase has pissed off investors, with some wondering if we could be heading for a return in the 1970s when inflation hit double digits.
So why is inflation such a concern for investors? Inflation, or a general increase in prices, causes you to lose your purchasing power over time. For investors, this can turn what appears to be a positive return into a negative return if inflation gets high enough. Owning a bond that pays 5% interest per year may seem like a solid investment, but if inflation hits 6%, your “real” return becomes negative.
How to beat inflation, according to Warren Buffett
With prices on the rise again as the economy recovers from the COVID-19 pandemic, it’s worth revisiting some of Buffett’s best suggestions for tackling what he once called a ‘huge tapeworm’. business “.
1. Invest in good businesses with low capital requirements
Buffett has long advocated owning businesses that generate high returns on the capital invested in the business. In times of inflation, companies with low capital requirements that are able to maintain profits should fare better than those that are required to invest more money at ever higher prices just to maintain their position.
Buffett once equated the challenge of inflation with “speeding up an escalator down”.
2. Look for companies that can raise prices during times of high inflation.
“The most important decision in valuing a business is the pricing power,” Buffett told the Commission of Inquiry into the Financial Crisis in 2010. “You have the power to raise prices without lose market to a competitor, and you’ve got a really good deal. “
If a business can raise its prices, it has a big advantage during times of high inflation because it is able to offset its own rising costs.
Buffett once said that an unregulated toll bridge would be the ideal asset to own in an inflationary world because you would have already built the bridge and could raise prices to offset inflation. “You are building the bridge with old dollars and you don’t have to replace it all the time,” he said.
3. Take a look at the TIPS
Another investment approved by Buffett for investors concerned about rising inflation is Inflation-Protected Treasury Securities, or TIPS. TIPS pays investors a fixed interest rate twice a year, but the principal amount is adjusted for inflation, as measured by the Consumer Price Index.
4. Invest in yourself and be the best at what you do
Investing in your own talent is one of the best ways to maintain your purchasing power over time, Buffett told shareholders in 2004. The best surgeon or lawyer in a town or city enjoys a education paid for in “old dollars” but is able to price their services in current dollars without having to re-educate.
Consider inflating your resume by learning a new skill through online resources or at a local college. Obtaining graduate degrees can be expensive, but they can also help you build your knowledge base and make you a much-needed employee in the future. Increasing your value to your employer and their clients will help you get your fair share of the income over time.
5. Avoid traditional links
“The obligations are do not the place to be these days, ”Buffett wrote in his 2020 letter to Berkshire shareholders. With interest rates still close to their all-time low, bond investors could be severely penalized in an inflationary environment.
Buffett pointed out that buying a 10-year bond with a 2% yield is equivalent to paying 50 times a company’s profits, the main difference being that the bond’s profits cannot increase.
“Fixed income investors around the world – whether they are pension funds, insurance companies or retirees – face a bleak future,” he said.
6. Limit your cravings
Buffett’s business partner and Berkshire Hathaway vice chairman Charlie Munger has his own opinion on how best to deal with periods of high inflation: “One of the best defenses for worrying about inflation is to don’t have a lot of stupid needs in your life. “Munger told Berkshire shareholders in 2004.” In other words, if you haven’t created a lot of artificial demand to drown yourself in consumer goods, you have a considerable defense against the vicissitudes of life.”
To help you, consider tracking your spending through a budgeting app. This will help you understand how you are currently spending your money and can help you identify problematic spending spikes before they become a habit.
What about gold?
Notably, Buffett avoided gold, an asset often seen as an excellent hedge against inflation. Gold fans are particularly concerned about the impact of inflation on paper money, a concern Buffett shares. But as he noted in 2011, “If you own an ounce of gold for forever, you will always have an ounce of gold at the end of it. Instead, he prefers to own productive assets such as stocks, real estate or farmland that generate dividends, income and food for their owners.
Recently, cryptocurrencies have sometimes been referred to as the digital version of gold, but Buffett is also very skeptical about them.
“Bitcoin has no unique value,” he told CNBC in 2019. “It doesn’t produce anything. You can watch it all day, and no little Bitcoin comes out or anything like that. is an illusion, fundamentally.
At the end of the line
It is still too early to say whether the current surge in inflation is likely to last or whether it will prove to be temporary.
If you are concerned about rising inflation, consider taking Buffett’s advice and owning productive assets such as high-quality companies with low capital requirements and avoid low-yielding bonds that don’t rise. payments with inflation rates.
Editorial Disclaimer: All investors are advised to conduct their own independent research into investment strategies before making an investment decision. In addition, investors are advised that past performance of investment products is not a guarantee of future price appreciation.