The recent Ukraine war has been the touchpaper for a multi-national cost of living crisis that had in fact been some time in the making. COVID-19, commodity prices and the environmental imperative, to name but three factors, have coincided to push prices of goods and services across the board to all-time highs. The result has been a surge in inflation, with the UK alone now hitting 9% in April.
Just as it was with the pandemic, the question on everyone’s lips is ‘when will this be over?’. Key institutions are scrambling to respond, and governments are introducing short-term, palliative measures in the hope of staving off recession. But the true answer may be that increased prices are here for good. It may be that the world needs to adjust to new realities in the way we buy and live. But what are the key costs causing this crisis for consumers, and how are they likely to change over time?
Energy
The first major culprit in the cost of living crisis is energy. This increase was underway well before the recent war, as wholesale prices had steadily risen in response to increased global demand, and the push towards greener but more expensive energy production.
These factors are here to stay, and while we may see a stabilising over the next two-three years, a return to previous levels is highly unlikely – and that means a new and more challenging ‘normal’ for consumers. This gloomy prognosis is even more likely for Europeans, now deprived of Russian energy sources that will continue to be shut off or severely curtailed for the foreseeable future.
Food
Next comes food. Myriad factors are driving up shopping basket prices, but at the highest level, changing weather patterns around the world are responsible for significant disruption in the way the world farms and produces. Critical foodstuffs have been massively affected by atypical weather events over the past few years. Supply chain disruption caused by COVID-19 is another major contributor, with factories and logistics facilities having to limit and re-configure labour usage to limit the spread of infection. Finally, the drive towards sustainability has seen great increases in production costs, as the world increasingly demands that food is produced in a greener way and under improved labour and animal welfare conditions.
All of these are long-term factors - adjusting to changing weather patterns, for example, could take the world decades to solve, and environmental concerns are unquestionably here to stay. Again, prices may stabilise in the medium term, but a return to previous levels is almost out of the question.
Interest rates
Many central banks, including in the UK and the US, are raising interest rates in an attempt to combat inflation. But while those with savings may benefit, the result is also a significant increase in the cost of consumer borrowing. Mortgage rates are going up, as is the cost of credit at just the time when consumers are having to rely on it more than ever.
These actions could potentially be reversed in the medium term. If inflation can be stabilised, governments might in 2-3 years be in a position to reduce rates once more – but that ray of hope is dependent on a host of other factors in the wider economy.
The value of financial understanding
It seems almost certain that a higher cost of living is here to stay. But that doesn’t mean there’s nothing we can do about it.
W1TTY is a young finance brand with a growing customer base amongst students and young people. As quickly as we’re taking off, we’re also acutely aware of what our customers are facing in managing their finances as the cost of living crisis continues.
In-depth educational services are needed right now to help young people deal with these issues. With so many facing a tougher challenge in balancing their budgets, it’s never been more important that they’re equipped with the understanding, know-how and responsible signposting that will help them to make prudent decisions about their money.
Young people deserve to have bright financial futures. Through a combination of loyalty and reward schemes, gamified learning and personalised features, W1TTY is about empowering our customers with accessible, engaging education and saving incentives. By doing so, it’s our aim that we can help insulate them from some of the worst impacts of the current crisis.
About the author: Ammar Kutait is the CEO and Founder of W1TTY.
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Inflation. It is in the headlines, your local shop, your costa coffee, your work lunch, your energy bills, your date nights - it is making financial life for most people pretty miserable, and with the highest rise in the cost of living for 40 years, it is understandable. But if you cannot beat them, join them, thus, I am on the lookout for investment options for my portfolio that can benefit from the rising prices.
The financial markets are in turmoil currently, partly as a result of the challenging economic conditions, so my ISA value relative to this time last year is not a welcome sight.
Why investors are worried
With inflation expected to continue rising, income investors like me are worried. Particularly as the FTSE 100’s yield is only 3.73% currently. To put this into context, the maximum dividend yield of the FTSE 100 index over the last 20 years was back in 2020. At one point during that year, it was at 7%, which would have at least been commensurate with the current level of inflation investors are faced with today.
Consumer price rises, currently at 9% compared to the same point last year, are expected to trend even higher this year. So, with persistent price rises looking like the medium-term norm, where can I turn to find investments that may provide an inflation-protected income, or growth, in the meantime?
Three places to consider investing
I would not normally invest in single stocks. But considering my portfolio is well-diversified, across assets, sectors and regions, mainly through a range of open-ended funds and investment trusts, a tactical move is justified considering the current market challenges.
Imperial Brands (LSE:IMB) is a good place to start. Tobacco stocks are cheap, and the British cigarette maker is one of the cheapest. The stock trades around 6.8 times projected 2022 earnings, significantly lower than the sector average of 11.4 times. It is also one of the highest yielding income stocks in the FTSE 100 currently, at 9%.
Alternatively, Phoenix Group (LSE:PHNX) is a stock with a yield in line with inflation, with additional growth potential. Its shares are now yielding over 8%. As interest rates rise, an insurance company’s liabilities (in the form of life policies) decline. In addition to this, the company is now writing more new business than the decline in its legacy business, so it is likely that the current dividend has the potential to grow from here.
These are two relatively high-income-producing stocks, which perform as well, or if not, better, in a high-inflation environment. As an income-focused investor, I ideally need returns yielding real returns above inflation. These stocks have the potential to provide this for me in the medium to long term.
Finally, core infrastructure stocks are another option that offers better inflation protection qualities than the wider stock market. Research and index providers, LPX AG, ran the numbers to prove this (up until May 2022). Core infrastructure stocks, as measured by the NMX Infrastructure Composite, have returned 9.9% per year since 1999. Seven percentage points more than the average inflation rate. It dwarfs the performance of the MSCI (6.6% per annum). The data shows that these stocks (as measured by the index) perform even better when inflation edges higher. For example, when the average inflation rate is above three per cent, the average excess return of infrastructure stocks over the MSCI World is 8.1 percentage points.
Final thoughts
There are no guarantees here, but these are the types of businesses and assets that seem more capable of defending against the effects of inflation than others. This is a key reason why I intend on buying these shares. Of course, all this is assuming that inflation will remain a problem and interest rates are going to rise on a sustained basis. Those are both possibilities but not certainties.
Nevertheless, I am dependent on my portfolio income and believe inflation will continue to persist. This requires me to seek out undervalued stocks to add to my portfolio that still has the ability to pay out growing income despite the volatile market environment.
If the current climate persists, assets that yield real returns (an investment return above inflation) will be vital to me maintaining my income and capital growth objectives.
About the author: Henry Adefope is an Associate Director at global communications and advocacy firm, SEC Newgate UK, and an investment commentator. He directs communication activities for major investment brands across a host of strategies and asset classes. Clients have included Vanguard, State Street Global Advisors, BNP Paribas, Barings, and RBC Global Asset Management. He began his career at Goldman Sachs and Broadwalk Asset Management and is a Chartered MCSI member of the Chartered Institute for Securities & Investments, as well as a member of the CFA Society.
Disclaimer: This article does not constitute financial advice. All investments are made at the reader’s own risk.
What is the Bank of England interest rate rise?
In the fourth increase since the start of December 2021, when the base rate was 0.1%, the Bank of England has raised interest rates to their highest level in 13 years. The base rate is now 1% - a 0.25% increase. This increase is in response to inflation with the Bank of England trying to regulate the economy.
What happened the last time the Bank base rate was 1%?
The last time the Bank base rate was 1% was back in 2009 when it was cut from 1.5% to 1% during the so-called “credit crunch”. The next month it was reduced to 0.5% and remained stable until August 2016. At that point, it was cut again in order to offset Brexit’s impact on the UK economy. Since then, UK borrowers have benefited from relatively low interest rates.
What will happen to mortgage payments?
Your mortgage payments will increase but only if you have a variable rate mortgage. This could be a tracker mortgage (one which follows a base rate) or a standard variable rate (one in which the interest rate is defined by the lender).
The amount that your mortgage payment will increase will depend on the type of loan. For example, a tracker mortgage will directly follow the new base rate set by the Bank of England. Reading the small print of your mortgage, you can find out how quickly the increase will be actioned. However, it is likely that by next month your payments are already likely to go up. For example, on a tracker mortgage with a current rate of 2.25%, the new rate would be 2.5%; this equates to an additional £18 per month over the next 20 years for a mortgage of £150,000.
Interestingly but also concerning is the increase in searches online for short-term loans. For example, searches of ‘payday loans near me’ and other search terms relating to high-cost-short-term finance have seen increases in the last few months and with increased costs of living, coupled with rising interest rates, this trend is expected to continue.
What does the interest rate rise mean for those on a standard variable loan?
Data shows that there are currently 1,092,000 borrowers on a standard variable rate mortgage in the UK. This means that over 1 million borrowers in the UK are subject to the interest rate set by the bank or building society. Depending on the type of variable-rate mortgage that they have, the interest rate will either increase automatically as a direct link to the base rate or at the lender’s discretion.
It is estimated that those on a variable-rate mortgage will pay approximately £504 more per year as a result of the increase (figures from UK Finance based on a £200,000 loan). This is the equivalent of approximately £42 per month more in monthly repayments.
The average standard variable rate charged by mortgage lenders is currently around 4.71% - only up 0.31% since December 2021 despite the jump in the base rate. This is because not all lenders have chosen to increase their interest rates in line with the new base rate.
Those on a tracker mortgage, with an interest rate directly linked to the base rate, are set to experience an increase of around £25.22 per month in their repayments. According to data from UK Finance, this jump will affect around 841,000 UK borrowers.
Will those with a fixed-rate mortgage be affected?
Those who have a fixed-rate mortgage, which is 75% of UK borrowers, will not be impacted by the increase in the base rate. However, they may face higher borrowing costs once their deal comes to its end and they may need to remortgage.
The cost of living squeeze
With the cost of living crisis still gripping much of Europe and the USA as well as further afield, rising interest rates are likely to add to the squeeze being felt by consumers. Although there are a few savings to be made, for example, the reduced need to purchase covid tests when travelling between countries, this has been more than offset by increases in fuel, living costs and interest rates.
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In April, regular pay excluding bonuses was down 3.4% after inflation. This marked the largest drop since records began in 2001, according to data from the Office for National Statistics (ONS).
ONS figures also revealed that, for public sector workers, real pay is falling by almost 6% a year.
Tony Wilson, director of the Institute for Employment Studies, commented: “This is really grim news on pay and is only likely to get worse. Despite the tightest labour market on record, nominal pay is broadly flat meaning that rocketing inflation is leading to the largest cuts in real pay in at least two decades [...] The picture is particularly bad for public sector workers.”
The figures come as inflation spiralled to a 40-year high of 9%, due in part to soaring energy and fuel prices amid the Russia-Ukraine war. The figures further emphasise the cost of living crisis that people in the UK are facing as pay increases are swallowed up by rapid inflation.
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The price was up 2.2p from Monday’s 178.50p to 180.73p per litre. This means it will soon cost £100 to fill up the average car, further exacerbating the cost-of-living crisis that many households are currently facing.
The price of diesel also rose by almost 1.5p to another record of 186.57p, with drivers of diesel cars already paying £102.61 to fill up a full tank of fuel.
“These are unprecedented times in terms of the accelerating cost of forecourt fuel. Sadly, it seems we are still some way from the peak,” commented RAC fuel spokesperson Simon Williams.
“Drivers need to brace themselves for average fuel prices rocketing to £2 a litre which would mean a fill-up would rise to an unbelievable £110 [...] We strongly urge the government to take drastic action to help soften the impact for drivers from these never-before-seen pump prices."
Government sources have not denied reports that Sunak will use his announcement later on Thursday to scrap the requirement to repay a previously announced £200 discount on energy bills for households, or that he could possibly increase the grant to as much as £400 per household.
Additional measures, such as announcing an increase in the warm home discount scheme for low-income households, are also expected. The government may also bring forward a planned increase in benefits that had been expected next year.
Earlier in the month, Boris Johnson refused to rule out a windfall tax when questioned by Ferrari, though the prime minister said he did not like them. He added, “I didn’t think they’re the right thing. I don’t think they’re the right way forward. I want those companies to make big, big investments.”
"Now, this is uncertain, we are only halfway through our price cap window but we are expecting a price cap in October in the region of £2800," Ofgem CEO Jonathan Brearley told the Business, Energy and Industrial Strategy committee.
"I know this is a very distressing time for customers but I do need to be clear with this committee, with customers and with the government about the likely price implications for October," he added.
In April, Ofgem announced a 54% energy price cap increase amid rocketing oil and gas prices. The expected October rise will put further pressure on households that are already struggling.
Last week, police officer Vicky Knight made headlines after she blasted Home Secretary Priti Patel over the cost of living crisis. Knight explained that she is struggling to feed her child on her £2,300-a-month wage, highlighting just how unaffordable basic necessities are rapidly becoming, even for those earning what is widely considered generous pay.
The Bank of England is tasked with creating inflation every year. Inflation erodes the value of money – prices rise – and our wages don’t always keep up with the cost of living. So who benefits from this policy and who pays? We know who pays for inflation. It’s the young people saving for a deposit who have those savings eroded, while first home prices are pushed further out of reach. House prices in the UK have benefited from dramatic inflation over the past fifty years and this has meant more and more people are left behind. What’s more, rents are going up and, right now, household bills are going ballistic. Inflation drives the abject misery of ‘heating or eating’.
Who benefits from rising inflation?
Governments tend to favour inflation as it erodes the real cost of repaying government debt; the warfare and welfare won’t cost quite so much to pay for if we inflate the debt away. Inflation can work as a stealth tax, by freezing a tax band so that more people must pay at that rate of tax. It can also be a stealthy way of reducing current expenditure; nurses get a rise, but not by quite as much as the real inflation rate.
Those of us who own houses and other assets quietly know that we are at least protected from inflation. In fact, our house prices always seem to go up by more than the official rate of inflation. The property guys see their rents increasing, with the value of their buildings increasing too and the real value of what they owe the bank falling. Property is a good gig. Inflation works for the banks as well. They can lend more against rising property values and are protected should they ever need to rely on the value of their security. Banking is a good gig too. Is there an inherent problem that the Bank of England should preside over a policy that seems to suit its industry?
Inflation is the ultimate regressive tax
Inflation takes money from poorer people and transfers it to those with wealth, as well as to the government. It enables governments to behave irresponsibly in relation to running up debts. In enacting this policy and indeed in letting inflation get completely out of hand, the Bank of England is behaving as a latter-day Sheriff of Nottingham.
Moreover, the Bank of England is uniquely well placed amongst central banks to start getting a grip on inflation. Through quantitative easing and suppressing interest rates, the bank has helped keep the Sterling at its lowest sustained value since the founding of the bank. In such a free trading country as the UK – where we import much of the products we use – an improvement in our exchange rate against other major currencies would have the immediate impact of reducing inflation.
The fact that the Bank has operated such a loose monetary policy in a period when the UK economy has been growing reasonably well and has record levels of employment is extraordinary.
It is almost as if the bank is trying to wilfully exceed its inflationary remit.
We are so used to inflation in our lives that it is easy to forget that it has not always been like this. In the 100 years between the battle of Waterloo and the outbreak of WW1 the pound gained about 5% in value. This marginal deflation is perhaps not surprising given the extraordinary advancement in technology and spread in trade that enabled many items in the shopping basket to become cheaper. As always, for most people, the largest item in that basket was the rent or purchase of their home. The Victorians managed to reduce the cost of an average home from 14 times the average household income at the beginning of the 19th Century to three times by the end.
By contrast, in the 100+ years since the outbreak of WW1 - rather than gaining in value - the pound lost over 95% of its value. Where a pound would buy 20 loaves of bread in 1914, it now doesn’t buy one. Average house prices are back at nearly 10 times average household incomes. The Victorians would have been proud of our amazing technological innovation and increase in trade. They would have been horrified at how we have allowed much of the social benefit of economic success to be eaten away by inflation. That inflation is a government policy is shameful. That inflationary policy has been allowed to get completely out of hand is criminal.
Inflation got going in the West as a by-product of paying for the two world wars and later for the Vietnam war. It became a policy of governments as it suits their desire for us to live beyond our means. It simultaneously suited financiers and property people too. A strange marriage of the state and capital that normally appear to be opposites in our society.
Final thoughts
I am not so sure the Bank of England shouldn’t be tasked with a policy of deflation. House prices would become more affordable for Millennials and Gen Z. This could help reverse a long-running decline in homeownership. Rents might fall. A policy to undo some inflation would be novel. Who would benefit and who would pay?
About the author: Sebastian Chambers is the author of The A-Z of Inequality, published by White Fox, priced at £10.00 and available at Amazon.co.uk.
According to the most recent data from the Office for National Statistics (ONS) on Wednesday, the consumer price index (CPI) measure of inflation rose to 9%, the highest it's been since calculations began in 1997. Additionally, the ONS estimates that CPI hasn’t been higher since 1982 when it peaked at around 11%. This is up from a 30-year high of 7% seen in March.
Chancellor of the Exchequer Rishi Sunak commented, "Countries around the world are dealing with rising inflation. Today’s inflation numbers are driven by the energy price cap rise in April, which in turn is driven by higher global energy prices.”
"We cannot protect people completely from these global challenges but are providing significant support where we can, and stand ready to take further action," the chancellor continued.
Shell announced the record first-quarter profits on Thursday, saying it had seen “strong results in volatile times.” The results come at a time when calls for a windfall tax in the UK are getting increasingly louder amid the cost of living crisis which is pushing many families to breaking point.
The energy sector has been reaping the benefits of soaring energy prices in recent months, pushed up further again by the Russia-Ukraine War and rocketing demand as economies begin to recover from the Covid-19 pandemic.
“The war in Ukraine is first and foremost a human tragedy, but it has also caused significant disruption to global energy markets and has shown that secure, reliable and affordable energy simply cannot be taken for granted,” said Shell CEO Ben van Beurden.
“The impacts of this uncertainty and the higher cost that comes with it are being felt far and wide. We have been engaging with governments, our customers and suppliers to work through the challenging implications and provide support and solutions where we can.”
The Bank of England’s policymakers are expected to increase interest rates from 0.75% to 1% — a level not seen since 2009. The central bank will also increase its forecasts for inflation as the cost of living crisis continues to spiral amid the ongoing Russia-Ukraine conflict.
At its past three meetings, the Monetary Policy Committee (MPC) already upped rates in a bid to rein in inflation, which reached a 30-year high of 7% in March.
The cost of living crisis is predicted to worsen again later this year when the energy price cap will be further revised. There are warnings that inflation could hit 9%, or even double digits, in the autumn.
In March, the Bank of England said, ‘If sustained, the latest rise in energy futures prices means that Ofgem’s utility price caps could again be substantially higher when they are reset in October 2022. This could temporarily push CPI inflation around the end of this year above the level projected for April, which was previously expected to be the peak.”
According to new data from XpertHR, the median basic pay increase in the three months to the end of March 2022 was worth 3%. This figure remains unchanged from the previous two rolling quarters.
Pay increases stand at their highest level since December 2008, but they now lag six percentage points behind the retail price index (RPI) which is currently at 9%.
The gap between UK pay rises and inflation is now at a record high, with the gap at its largest since XpertHR’s record began in April 1984.
“Two successive months of stagnant pay settlements set against ever-increasing inflation will give cause to concern for those struggling to contend with the worsening cost of living crisis," commented Sheila Attwood, XpertHR pay and benefits editor.
“While the current 3% median pay award is notably higher than the 1.2% recorded by XpertHR a year ago, the inflation rate was dramatically less than where it stands today. As a result, a deepening gulf between pay and inflation continues to develop, to the detriment of workers’ finances.”
