What's Your Personal Inflation Rate?

Susan Dziubinski: Hi, I'm Susan Dziubinski with Morningstar. With the consumer price index at ultralow levels, it may be tempting to assume that inflation is a nonissue, but what really matters is your personal rate of inflation. Joining me today to discuss the topic is Christine Benz. Christine is Morningstar's director of personal finance. Christine, thanks for joining me today.

Christine Benz: Susan, it's great to be here.

Dziubinski: Now, many of us look to the consumer price index, or the CPI, to try to get a handle on whether we should be concerned about inflation. How good of a gauge is the CPI?

Benz: Well, it's really comprehensive. To assemble CPI, the consumer price index, the Bureau of Labor Statistics looks at the prices on thousands of different items that we all consume in our households, and then it weights them based on data that it receives from a huge array of households that it samples, so thousands of households. It's a pretty good starting point when you're thinking about all consumers. The issue is, and the reason why you want to think about this concept that Jason Zweig once called "meflation," is that we're all consuming things differently. You might consume more of a certain item in your house than we do in my house, and so our inflationary experiences will be different. That's why you do want to think about customizing your own CPI, taking into account the inflation that you're experiencing and the extent to which you're spending money on various items.

Dziubinski: Now, housing is a large portion of the CPI. How does the CPI go about measuring housing costs?

Benz: It is a really large portion, Susan. It's 40% of CPI, so it's the biggest ticket item in CPI. To measure housing costs, the Bureau of Labor Statistics is looking at what we would pay if we're homeowners to rent a similar size home. It's an approximation, especially from homeowners, and there can be these temporary dislocations, which we're arguably living through right now, where you have rents declining in some markets at the same time home prices are escalating quite substantially. We've had in some urban areas an exodus from the urban centers, where people are buying suburban homes. The prices are elevating very quickly in the suburbs, whereas they're declining in the cities. This is an issue and can cause a little bit of dislocation depending on what your inflationary experience is. We've had at 11% jump in home prices from July of 2019 to July of 2020, really significant news for you and a significant inflation factor if you are in the market for a home. It's less of an issue if you're a renter or if you've owned your home for a while.

Dziubinski: What other categories have we seen some meaningful inflation, would you say, in the past year or so?

Benz: A couple of biggies. One would be healthcare, the other would be food prices. We've seen inflation in both areas. I think healthcare has been inflating like at a 4% rate, food has been more in the neighborhood of 5%. Healthcare is notable because in 2018 and 2019, we had really seen healthcare inflation go down quite a bit. It's bumped up a little bit this year. One countervailing force is the fact that we've seen energy prices decline. As we've seen manufacturing production decline, as we've seen more and more of us not commuting, we've seen energy costs come down about 9%. That has been a savings for people who do spend a fair amount, especially on transit costs.

Dziubinski: If an individual wants to get his or her arms around whether inflation is an issue for them, how would they go about doing that?

Benz: You want to think about your own consumption basket, that Jason Zweig concept of "meflation." A good example would be, say, there's an elderly person who lives in an urban area, she walks to the grocery store, perhaps she's a fairly significant consumer of healthcare. So, she has been experiencing higher costs in those two big areas of her spending, and she has not been a beneficiary of the fact that we've seen energy prices declining. She'd want to think about maybe being more concerned with inflation because it's a bigger deal for her and for her spending.

Dziubinski: Is it common for the elderly to experience maybe slightly higher rates of personal inflation than other parts of the population?

Benz: It's a mixed bag. Elderly or older people tend to own homes at a higher rate than the general population, they own their own homes, so they don't experience housing inflation to the same extent that younger parts of the population do. On the other hand, they're bigger consumers of healthcare and we have historically seen healthcare prices increasing at a faster rate than the broad CPI measure. The Bureau of Labor Statistics prepares kind of a companion statistic that measures consumer price indexes for older adults, and historically that has run a little bit hotter than the general inflation rate--some years it hasn't, some years it has. But again, I think older adults need to be more cognizant about inflation and really need to take stock of their personal consumption baskets when determining how concerned they should be.

Dziubinski: What are some practical things that older adults can do to hedge a little bit against some of the inflation they might be experiencing?

Benz: Well, one thing to do is think about adding some inflation protection to your portfolio. Even as other sources of cash flow in your household may be inflation-adjusted, like Social Security, the withdrawals that you make from your portfolio do not receive those inflation adjustments. So, you want to make sure that your portfolio includes some insulation against inflationary shocks. Really the best way to do that would be to think about adding some inflation-protected bond exposure to your portfolio. To the extent that you have fixed-income exposure, I think you should also have inflation-protected exposure. Then simply having equities as a component of your portfolio makes a lot of sense, even for older adults. The reason is, A, they need the growth because of longevity, but also historically stocks have outrun inflation, so they've had a higher return than inflation. Even though they're not a direct hedge against inflation, it's important to include them as a component of your portfolio even as you age.

Dziubinski: Well, Christine, thank you for the great perspective. It seems like as with many other things in investing and with our money, inflation is a personal issue, too.

Benz: It is completely, Susan.

Dziubinski: Thanks for joining me today, Christine.

Benz: Thank you.

Dziubinski: I'm Susan Dziubinski for Morningstar. Thank you for tuning in.