How Can I Protect Myself From Inflation?

sinking dollar
••• When the dollar sinks in value, you get inflation. Photo: Bryan Allen/Getty Images

Inflation eats up your buying power. If it's severe, you will notice it from year to year as the prices of things you buy everyday just keep going up. This is a big problem if your income isn't going up at the same rate. Even if prices are only rising gradually, you will find that it eventually erodes your standard of living. Therefore, it's good to explore different ways to protect yourself from this insidious force.

The most powerful way is to increase your earning ability and income. A 5% annual raise, or a promotion that nets you a 20% gain, will make inflation irrelevant. However, if that's not an option, or you are on a fixed income or retired, then you'll need to explore other options.

The best way to protect your savings is to invest in the stock market. It has returned around 10% over time. Whether it will do so in the future is unknown, and there's the risk. 

If you are looking for a safer way to protect yourself from inflation, consider these two very good instruments you can purchase from the U.S. Treasury. As always, consult with your financial planner before making any financial decision to be sure this fits within your goals.

TIPS: One way to protect your portfolio from inflation is with TIPS - Treasury Inflated Protected Securities. These pay a fixed rate of interest. However, twice a year the government re-adjusts the principal in response to changes in the Consumer Price Index, as published monthly by the Bureau of Labor Statistics.

This means that, as inflation increases, the value of the bond increases. Although the interest rate doesn't increase, holders get a larger cash payment because the percent is applied to a larger principal.

TIPS do well during inflation, but do worse during times of non-inflation or stability. However, over the long haul, they do not do as well as a well-diversified portfolio that includes stocks.

Series I Bonds: The Series I Bonds, or I Bond for short, offers a guaranteed fixed rate of return which it keeps for the life of the bond. It is also affected by a variable rate that is indexed to the CPI, and is reset in November and May. The return you get for the bond is a composite of its fixed rate and the variable rate in effect at that time. To find out each bond's return, go to the Treasury Department's Savings Bond Calculator.

Learn more at the U.S. Treasury web site

Inflation FAQ