inflation

When advisors speak with their clients, the concept of inflation should be part of the conversation. It has an impact on how much investors spend and save, and whether the returns they receive from savings or investments are worthwhile.

In this article, we'll discuss the basics of inflation and the impact it has on investments and retirement planning. We'll also go over some strategies to protect your clients' portfolios from rising inflation.

What is inflation?

Inflation refers to the rising prices of goods and services over time. When inflation happens, each dollar buys less than it did before. This means the purchasing power of money goes down. Consumers need more dollars to buy the same "basket of goods and services" they used to get for less.

Economists track these changes using tools like the Consumer Price Index (CPI) and the Personal Consumption Expenditures (PCE) price index, which measure the price of a typical basket of goods and services over time.

The inflation rate shows how much average prices have increased over the past year. For example, if the Consumer Price Index (CPI) rises by 3 percent from September 2024 to September 2025, it means consumer prices are, on average, 3 percent higher than a year ago.

Inflation is a normal part of most economies, including the United States. The Federal Reserve aims to keep inflation low and stable, at around 2 percent per year. This helps people and businesses plan for the future, knowing that prices won't suddenly jump or fall.

What causes inflation?

There's no single cause of inflation. Instead, it can happen for several reasons, often at the same time. Here are the main drivers:

• Demand-pull inflation – This happens when more people want to buy goods and services than what's available. When demand increases faster than supply, prices rise. For example, if everyone suddenly wants to buy new cars but there aren't enough on the lot, car prices go up.
• Cost-push inflation – This occurs when it costs more to make or deliver products. If the price of oil goes up, it costs more to ship goods, and those costs are often passed on to consumers as higher prices. Supply chain disruptions—like those seen during the COVID-19 pandemic—can also push prices up.
• Built-in inflation – Sometimes, inflation feeds on itself. If workers expect prices to rise, they may ask for higher wages. If businesses pay those higher wages, they might raise prices to cover their costs. This cycle can keep inflation going.
• External shocks – Events like wars, natural disasters, or global pandemics can disrupt supply chains or change demand, causing prices to spike. Some recent examples are the Covid-19 pandemic and the Russia-Ukraine war.
• Government policies – Trade policies and tariffs can also affect inflation. For example, tariffs on imported goods – like those imposed during the Trump administration – can make certain products more expensive for US consumers as companies pass those costs on to customers, contributing to higher inflation for those items.

In short, inflation can be caused by changes in aggregate demand, disruptions in aggregate supply, shifts in inflation expectations, and policy decisions. It's a complex process, but understanding the basics helps you explain it to clients in simple terms.

How is inflation measured in the US?

In the United States, inflation is measured using several different indexes. The most common are:

• Consumer Price Index (CPI) – This measures the average change in prices paid by urban consumers for a "basket" of goods and services, including food, housing, transportation, and healthcare. The CPI is published monthly by the Bureau of Labor Statistics (BLS)
• Personal Consumption Expenditures (PCE) Price Index – This is calculated by the Bureau of Economic Analysis and is the Federal Reserve's preferred inflation measure. It covers a wider range of household spending than the CPI and is updated to reflect changes in consumer behavior
• Producer Price Index (PPI) – This tracks the average change in prices received by domestic producers for their output. It's a leading indicator, meaning it can signal future changes in consumer prices. This is also published monthly by the BLS

The inflation rate is calculated by comparing the current price index to the index from the same month one year ago. Here's the formula:

For example, if the current price index was 315.00 in September 2024 and 324.80 in September 2025, the annual inflation rate would be about 3.1 percent.

The Federal Reserve looks at these indexes over several months or years to spot trends, not just short-term spikes. This helps them decide whether inflation is likely to persist or if it's just a temporary blip.

Watch this video for insights on the relationship between The Fed and the US administration:

Inflation's impact on investment portfolios

For independent advisors and RIAs, understanding inflation is crucial because it has a direct impact on your clients' portfolios. Inflation can:

• Weaken purchasing power – As prices rise, the real value of cash and fixed-income investments falls. If inflation is 3 percent and a client's savings account earns 1 percent, their money loses value in real terms
• Affect interest rates – The Fed may raise interest rates to slow inflation. Higher rates can reduce bond prices and slow stock market growth
• Impact different asset classes – Some investments, like stocks and real estate, may keep up with or outpace inflation over time. Others, like long-term bonds or cash, may lose ground
• Affect certain sectors – Commodities or energy may benefit from higher prices. Other sectors like consumer staples may struggle if costs rise faster than they can pass on to customers
• Lead to uncertainty and volatility – High or unpredictable inflation can make it harder to plan for the future, leading to increased market volatility and risk

Inflation is more than just numbers; it has real effects on your clients' ability to meet financial goals, especially over the long term.

Inflation and retirement planning

Inflation is especially important in retirement planning. It has an impact on:

• Long time horizons – Retirees may spend 20 or 30 years in retirement. Even low inflation can diminish purchasing power over time
• Fixed incomes – Many retirees rely on fixed sources of income, like pensions or Social Security. If these payments don't keep up with inflation, retirees may struggle to maintain their standard of living
• Healthcare costs – Medical expenses often rise faster than general inflation, putting extra pressure on retirement budgets
• Cost-of-living adjustments (COLAs) – Some retirement benefits are indexed to inflation, but not all. It's important to know which sources of income will keep pace with rising prices

Review your clients' retirement plans regularly. Make sure that these account for inflation and adjust withdrawal strategies as needed. Go over these tips to build wealth and retire comfortably to help your clients prepare for retirement.

Nominal vs. real returns

No conversation on inflation would be complete without touching on nominal and real returns:

• Nominal return – The percentage increase in an investment before adjusting for inflation. For example, if a bond pays 4 percent interest, that's the nominal return
• Real return – This is the nominal return minus the inflation rate. If inflation is 3 percent and the bond pays 4 percent, the real return is only 1 percent. Real returns show the true increase in purchasing power

Aim for investment returns that at least outpace inflation. This way, your clients benefit from real returns, not just nominal ones.

Strategies to protect client portfolios from inflation

There's no way to avoid inflation entirely, but there are strategies to help protect client portfolios:

• Diversification – Spread investments across different asset classes, including stocks, bonds, real estate, and commodities. Some assets, like real estate and certain stocks, tend to keep up with inflation. Even global equities can be a good hedge against inflation in the long term
• Inflation-protected securities – Consider Treasury Inflation-Protected Securities (TIPS) or other bonds that adjust with inflation
• Shorter-duration bonds – Short-term bonds are less sensitive to rising interest rates than long-term bonds
• Real assets – Investments in real estate, infrastructure, or commodities can provide a hedge against inflation

To build a resilient investment strategy for your clients, review portfolios regularly. Keep them aligned with clients' goals and risk tolerance, especially as inflation and interest rates change.

It's also important to educate clients about the risks of ignoring inflation. Even modest inflation, if left unchecked, can erode wealth over time. Proactive planning ensures that clients are better prepared for changing economic conditions.

Key takeaways on inflation

Inflation is a rise in the price of goods and services that reduces purchasing power and impacts all areas of financial planning. By understanding what causes inflation, how it's measured, and how it affects investments and retirement, advisors can better educate clients and build resilient portfolios.

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