The problem with inflation — even if it is a very low probability event …
All inflation, by definition, is uneven. Let’s say there were 10% inflation, but even across the board: your expenses rose 10% and you received a 10% raise. It’s an annoyance but it doesn’t change your life.
But the CPI is an index. It tells you the average rate of inflation. It doesn’t tell you what inflation rate is most relevant to you. Compare two individuals: one has inherited stocks and real estate. Real estate prices go up, the stock market skyrockets. That person hasn’t done anything, yet he or she suddenly finds him- or herself much better off.
The other individual worked his or her whole life, finally retired and lives off a pension. It adds up to a fixed amount. Along comes inflation of 5%, and it’s a problem. But if inflation is 5%, and your rent goes up 20% and that’s by far your biggest expense, it’s a disaster.
That’s the evil of inflation — it changes everybody’s position, without anyone having to do anything to cause it.
Somehow, you’ve got to be prepared for something like that.
As an investor, you might want to spend as much time thinking about protecting yourself against inflation — even if it is a low probability event — as you do trying to figure out what will happen to the Tesla share price. You might be better off lagging the market 1% or 2% a year but well prepared for inflation, as opposed to 1% or 2% above the market but not prepared for inflation.
That focus on beating the market index as the primary goal of investing is the equivalent of allocating more disposable income to savings rather than paying for health insurance. In a health crisis it has disastrous consequences.