How High Inflation Impacts Your Retirement Savings

Inflation erodes purchasing power over time, and Canadians spent much of the last three and a half years coping with higher-than-normal prices. After decades of relatively stable inflation within the Bank of Canada’s 1%–3% target range, inflation surged to 8.1% in June 2022. The central bank raised interest rates sharply to bring inflation under control, and while price growth remained above the 2% target for two more years, more recent readings have shown progress. August’s CPI hit the 2% target and September’s CPI measured 1.6%, prompting the Bank of Canada and the U.S. Federal Reserve to begin lowering interest rates in hopes of achieving a “soft landing” without triggering a recession.

With the worst of the high-inflation period apparently behind us, investors are asking what steps they should take to protect and grow their portfolios going forward.

How inflation affects investment portfolios

Over long periods, stocks and bonds have historically outpaced inflation, but both tend to struggle during high-inflation episodes—especially when inflation rises faster and more unexpectedly than anticipated. For example, during the high-inflation era from 1966 to 1982, U.S. equities produced essentially a 0% real return after adjusting for inflation.

Central banks typically raise interest rates to slow inflation, and higher interest rates reduce bond prices. When rates climb quickly, the decline in bond values accelerates. In 2022, long-term government bond prices fell steeply—an outcome most fixed-income investors did not expect.

Rising rates also squeeze companies that relied on a decade of cheap borrowing. Growth-oriented technology stocks, which benefited from low interest rates and abundant capital, suffered heavy losses; for instance, the NASDAQ Composite fell sharply in 2022 as rates rose.

There were some bright spots amid rising rates. Guaranteed Investment Certificate (GIC) and high-interest savings rates rose markedly in 2022—one-year GIC yields climbed from roughly 1.5% at the start of the year to over 5% by year-end, while five-year GICs also moved significantly higher—offering savers attractive returns relative to previous years.

Why persistently high inflation worries investors

Central banks around the world raised policy rates to return inflation to the low, steady levels that support economic planning and investment. Both the Bank of Canada and the U.S. Federal Reserve have stressed that persistent inflation is a larger long-term threat to economic welfare than the short-term pain of higher rates and slower growth. They aim to avoid a repeat of the prolonged high inflation of the 1970s, which is why rates rose and remained elevated until policymakers were confident inflation was back under control.

Stable, predictable inflation helps businesses and consumers plan spending, saving and investment. When inflation is unpredictable and elevated, uncertainty increases and asset prices become more volatile. The ideal outcome for policymakers and market participants is a soft landing—bringing inflation back to target without causing a recession.

How investors can protect retirement savings

Whether you are retired, nearing retirement or still decades away, protecting purchasing power is a key financial goal. Diversification remains one of the most practical defenses against the risk of low or negative real returns. Portfolio managers such as Benjamin Felix and Cameron Passmore emphasize holding a broad mix of return sources—value and growth stocks, domestic and international equities, and appropriate fixed income allocations—to reduce the chance that an entire portfolio will be wiped out by inflation-driven market moves.

Felix notes that an ideal inflation hedge would share three characteristics:

• Positive correlation with inflation, including responsiveness to unexpected inflation;
• Reasonable volatility that does not undermine long-term outcomes;
• A positive expected real return over the relevant time horizon.

In practice, no single asset perfectly meets all three criteria. Commodities can react to inflation but are often volatile. Gold can be volatile and does not reliably provide a positive real return. Inflation-protected bonds hedge purchasing power but only if their duration and payout structure match an investor’s time horizon.

A pragmatic approach is global diversification across stocks and bonds. Historical evidence shows that while U.S. stocks struggled in certain high-inflation periods, international markets and value-oriented equities sometimes delivered positive real returns. Over the very long run, global equities have generally provided a positive real return, making them a reasonable component of an inflation-aware retirement strategy.

Retirees may also benefit from inflation-linked sources of income such as workplace pensions, the Canada Pension Plan (CPP) and Old Age Security (OAS). CPP and OAS increases in recent years helped offset some inflation for beneficiaries. In addition, the higher interest rates of recent years have produced attractive yields on GICs and high-interest savings accounts, which can be useful for conservative portions of a retirement portfolio. Borrowers with fixed-rate debt locked in before rates rose may still enjoy lower payments for the remaining term of their loans.

Final thoughts

Experiencing elevated inflation for an extended period understandably leaves investors wary. The most sensible course is often a diversified, globally oriented portfolio that blends equities and fixed income, tailored to your time horizon and risk tolerance. Diversification does not eliminate inflation risk, but it spreads it across more sources of return and reduces the likelihood of a prolonged period of zero or negative real returns.

As Harry Markowitz observed, “Diversification is the only free lunch.” For retirement planning and long-term investing, maintaining a well-constructed, diversified portfolio remains a practical way to preserve and grow purchasing power over time.

Read more about investing for retirees:

• What do rising interest rates mean for retirement savings?
• We’re living longer—here are two ways to boost retirement savings and income
• What are call options? Why should retirees care about them?
• How to pick the right ETF for your needs