Inflation is a reality of modern economies that affects everyone in everyday life. For investors, however, it also raises concerns about how to protect money from inflation and prevent savings from losing value. In this article, we examine what inflation means for investors, how it affects returns, how to calculate real return, and the most common inflation investing misconceptions.

Inflation and Investments: Why Does It Matter?

Inflation is a general rise in prices that reduces purchasing power and directly impacts all of us. Statistical data shows that inflation in Latvia reached 17.3% in 2022, 8.9% in 2023, and 1.3% in 2024. In the euro area, overall inflation stood at 1.7% in January 2026.

What does this mean in practical terms? If annual inflation is consistently 2.5%, a basket of goods that costs €100 today will cost €102.50 next year and approximately €128 in 10 years. If your money simply sits in an account during that period, its purchasing power declines — this is how inflation affects savings.

That is why investing during inflation is not only about earning returns — for many, it becomes a way to reduce the long-term erosion of purchasing power. However, if inflation accelerates rapidly and exceeds expectations, real investment returns may fail to compensate for purchasing power loss.

Real Return vs. Nominal Return

When discussing the impact of inflation on savings, it is important to understand the difference between nominal return and real return.

• Nominal return – the percentage gain you see “on paper.”

• Real return – the profit after inflation, reflecting whether your purchasing power has actually increased.

How to Calculate Real Return

The most commonly used formula is:

(1+nominalreturn)/(1+inflation)−1(1+nominalreturn)/(1+inflation)−1

In simplified terms, subtract inflation from the nominal return. If your investment yields 10% and inflation is 3%, the real return is approximately 7%.

Real return ultimately determines whether your investments are truly working in your favor.

Inflation Risk – What Does It Mean for Investors?

Inflation risk arises when actual inflation exceeds expectations. In such cases, the real return on investments may be lower than planned.

Inflation and interest rates are closely connected. When inflation rises, central banks typically increase interest rates. This affects loans, real estate markets, and bond prices. Therefore, price increases and investments should always be evaluated in relation to one another.

The Impact of Inflation on Different Asset Classes

1. Inflation and Cash Savings

Holding cash or low-interest deposits during inflation is typically one of the least effective ways to preserve purchasing power. Even moderate inflation gradually erodes the value of money. For example, if inflation is 3% and your deposit earns 0–1%, your real return is negative.

The belief that “money in the bank is safe” is one of the most common myths. It may be safe in nominal terms, but not in terms of real purchasing power.

That said, keeping some cash is still important. Liquid savings are essential for building an emergency fund and covering unexpected expenses. The key question is not whether to hold cash, but how much of your total assets should remain in cash.

2. Inflation and Bonds

Bonds are not automatically protection against inflation.

Fixed-rate bonds — government or corporate — are particularly vulnerable during inflationary periods. Rising inflation often leads to higher market interest rates, making existing lower-yield bonds less attractive. As a result, their prices decline to adjust yields to new conditions.

To mitigate inflation risk, special instruments exist — inflation-linked investments. For example, U.S. TIPS or European inflation-indexed bonds tie principal and interest payments to the consumer price index, helping preserve purchasing power.

3. Inflation and Stocks

Stocks are traditionally considered a stronger long-term hedge against inflation because companies can adjust prices in response to cost changes. However, very high inflation can significantly reduce real stock returns.

Research suggests that stocks outperform inflation primarily when inflation is low (below 3%). In such periods, stock returns exceeded consumer price increases in roughly 90% of cases. When inflation rises above 3%, that probability drops to below 50%. During periods of very high inflation, real stock returns often deteriorate and may even turn negative in the short term.

Historically, however, long-term real returns from equities have been positive.

It is also important to note that different economic sectors react differently to inflation. Energy and raw materials sectors often benefit during inflationary periods, while consumer goods, automotive, and retail sectors may struggle due to difficulties passing rising costs on to consumers.

4. Inflation and Real Estate

Construction costs, property values, and rental prices often adjust relatively quickly to market conditions. For this reason, real estate is frequently viewed as an inflation hedge.

However, if purchasing property through financing, inflation and interest rates must be considered carefully. The main risk during inflationary episodes is rising interest rates, especially for variable-rate loans or when fixed-rate periods expire.

Rental income often rises with inflation, though this depends heavily on region and market conditions.

In summary, real estate can help preserve value during inflation, but higher borrowing costs and market volatility must be considered.

5. Does Gold Protect Against Inflation?

This is another widespread belief. While gold is often promoted as a safe inflation hedge, historical data does not consistently support this claim.

After adjusting gold prices for inflation, real returns declined for more than 20 years following the 1980 peak before recovering in the 2000s. Gold may perform well during periods of high uncertainty or negative real interest rates, but it is not a consistently predictable inflation hedge in the short term.

How to Protect Money from Inflation

There is no universal answer to what to buy during inflation. However, several principles can help structure your investment approach more effectively.

1. Diversification

Include multiple asset classes — stocks, bonds, real estate, commodities. Diversification helps reduce inflation risk. Pay attention to sectors historically more resilient to inflation, such as energy, commodities, agriculture, and real estate.

2. Long-Term Perspective

Short-term volatility is inevitable during inflationary periods. Historically, disciplined investors who adhered to long-term strategies often achieved positive results over time.

3. Inflation-Linked Instruments

Inflation-linked bonds or funds can provide direct protection by adjusting returns to inflation indicators, such as European inflation-indexed bonds or U.S. TIPS.

4. Personal Finance Review

Periods of rising inflation are also a good time to review your personal budget — reduce unnecessary spending and prioritize essential purchases.

5. Financial Literacy

One of the strongest tools against inflation is knowledge. Understanding economic processes, inflation dynamics, and investment principles helps distinguish facts from myths and avoid emotional decisions during market volatility.

Financial literacy enables investors to better evaluate risks, compare opportunities, and protect money from inflation over the long term.

Conclusion

Investing during inflation means focusing on real purchasing power rather than just percentage returns. The question is not only how much you earn, but whether your money grows faster than prices.

Inflation and investments are closely interconnected. By improving financial literacy and understanding how inflation affects returns, investors can make more informed decisions and gradually build a resilient investment strategy.

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This material is for informational purposes and is not individual investment advice.