Have you ever received a measly CPI-adjusted wage rise and felt like the headline inflation rate bears as much relation to your cost of living as a neanderthal tribe does to the Rich Kids Of Instagram? 

CPI inflation and its RPI cousin measure the average change in prices for a representative basket of goods and services bought by UK households. This average figure is highly unlikely to match your spending habits.

In fact, it would be extraordinary if it did. 

Perhaps you don’t smoke, or drive, or have a pet. Maybe you’re a vegetarian, or don’t consume prescription drugs at the ‘average’ rate. Or you could spend more on housing or less on food than is assumed by the official inflation rate methodology. 

My personal inflation rate is closer to Afghanistan’s national figure than the UK’s. 

The reality is that official inflation metrics aren’t designed to reflect your specific situation. And the difference can have a big impact on your investing plans. 

Best practice calls for us to adjust our investment contributions and target numbers by inflation. Updating like this keeps your portfolio on track to deliver the purchasing power you need in the future.

Given it’s your own future at stake, it’s far better to correct drift using your personal inflation rate than to use CPI or RPI.

Inflated expectations

Inflation is an insidious money-munching monster. Innocuous differences between your rate and the official statistics can have a disproportionate effect on your lifestyle given time. 

For example, the historical UK inflation rate of 3% will halve your purchasing power in 22 years and nine months. 

But a personal inflation rate of 5% halves your spending power in 13 years!

With a healthy lifespan, you could be exposed to inflation for more than 70 years over your combined accumulation and deaccumulation phases.

It’s worth working out what you’re really up against. 

What is a personal inflation rate?

Your personal inflation rate measures the change in prices that are representative of your precise spending patterns. That’s as opposed to the official inflation figures, which calculate the national average. 

Your personal inflation rate accounts for how your situation diverges from the national picture due to your:

• Demographic and gender
• Level of affluence
• Region
• Housing choice
• Brand preferences
• Product and service preferences
• Choice of vendors
• Ability to switch to cheaper products or take advantage of offers
• Ability to substitute – for example to switch to pork if steak becomes too expensive

If you spend more on items with large price increases in comparison to the national average, then your personal inflation will outstrip the official number. 

If you spend relatively more on items with low price rises then you will experience a lower rate of inflation. 

Remember, we tend to be susceptible to the money illusion. This is our very human habit of valuing our wealth in nominal terms (the figure before inflation adjustments) instead of real terms (our actual purchasing power). 

The money illusion gets worse as you age. Your price perceptions are partially anchored by the past. It can be hard for even the money-savvy to update their outmoded notions, such as that a pint of milk should cost 20p or a cinema ticket no more than half a farthing. 

The illusion can be broken by knowing your personal rate of inflation. 

How to calculate your personal inflation rate

Calculating your personal inflation rate starts with tracking your spending.

You can use an online budget tracker or customise your own spreadsheet.

The simplest method is to capture your total annual spend, then calculate its percentage change every year. 

For example:

Year 1 total spend = £30,000

Year 2 total spend = £33,000

Percentage change = (33,000 – 30,000) / 30,000 x 100

= 10% annual personal inflation

This crude method has a problem, though. Many people’s annual spending is pretty volatile. 

For instance, my annual spend shot up 44% one year, then down 16% the next. I’m not advocating I should have increased my investment contributions by 44% in a year and then slashed them by 16%!

(The technical term for that is “nuts”.)

What’s needed is a personal inflation method that smoothes out our consumption patterns.  

Our expenses can be quite benign some years. Other years the consumption gods hit you with spendy thunderbolts like replacing the roof in the same year you get married.

We need to account for that variation.

Two ways to stop your personal inflation rate whipsawing

One method is to track a subset of your everyday expenses and to exclude large and infrequent purchases. 

The Everyday Price Index maintained by the American Institute for Economic Research excludes items such as car purchases, appliances, furniture, and housing. 

What’s left on your budget tracker will be a reasonable indicator of your inflation rate. It won’t be suddenly blown out of all proportion because you moved house one year. 

The second method is to include your large and infrequent purchases, but to notionally spread the cost over time. This enables you to flatten out major expense spikes into a smoother series of annual expenses. You can insert these into your personal inflation calculation. 

If you buy a new car worth £10,000, say, and intend to keep it for 10-years then it shows up as a £1,000 expenditure every year.

Obviously this is a guesstimate. Much depends on how much you spend on a car next time. 

Inflation hedonists

Official inflation indexes can understate inflation if a consumer product improves in quality but doesn’t drop in price.

You get more for your money, and that shows up in the index as a decline in inflation (according to some methodologies).

But say you pay £1,500 for a laptop, and you spent £1,200 on the equivalent model five years ago. You’ll experience personal inflation even if it’s twice as good as your old laptop. 

You can adjust for this ‘hedonic inflation’ by annually noting the prices for similarly-featured, brand new versions of your big-money, irregular expenditures. 

The £1,000 per year expense for the car, in the example above, would be upweighted if newer versions of the same model rose in price.  

Granted, doing this takes some work. But your personal inflation rate will be more accurate in return for a bit of light Googling. 

Alternatively you can assume you’ll stick to your current price point and accept a more basic product than is widely available next time.

That will be an interesting test of your frugal muscle.

Once in a lifetime

You can disregard costs for genuine one-offs for the purposes of personal inflation. Ignore the cost of your wedding or laser eye surgery, and assume you’ll never move house again.

Just make sure those costs are genuine one-offs.

Being sensible about what you ignore will help dampen your personal inflation rate volatility without torpedoing its accuracy. 

Personal inflation annual average calculation

Once you have a few years of data, use a geometric mean calculator to reveal your average annual rate of personal inflation. 

You’ll now have a good sense of how your personal inflation stacks up against the headline rates. 

My average annual inflation rate is 6.38% vs 1.34% for CPI over the seven-year period I have good spending data for. 

I’ve stayed ahead of inflation by increasing my income by an average of 8.25% per year. But I’ll have to get a grip on my personal rate if I retire early.

I can’t expect my portfolio to punch the lights out enough to cope with that level of inflation when headline rates are so low. 

You can benchmark yourself against the UK inflation rate of your choice by visiting the ONS’ inflation page. 

Slice and dice

It can be pretty revealing to chop up your spending data into categories. You can then analyse your inflation rate at a more granular level.

My annualised personal inflation rate for groceries is 4.85%. Knowing this figure has given me fresh impetus to rein in the food bill as it’s one of my biggest spending categories. 

Utilities spending has declined by 5.51% annualised over seven years. I even impress myself with that. My gut would have said I’m burning money on heating. My gut is a notorious pessimist. 

I’m going to credit this spending decline to the power of annual switching and installing the most efficient boiler that I could. I also installed smart heating controls. 

How to use your personal inflation rate for investing

Adjust your key investing numbers by your personal inflation rate on an annual basis:

• Investment contributions
• Your investment target total
• Your target income to achieve financial independence (FI)

Step 1 – Add your end of year one personal inflation percentage to 1. 

For example, 5% inflation: 1 + 0.05 = 1.05

Step 2 – Multiply your year one investing contributions by that annual inflation number e.g. 1.05. 

For example, £500 monthly investing contribution:

500 x 1.05 = £525 investing contribution per month in year two

Step 3 – Next year, multiply year two’s investing contribution by the end of year two’s personal inflation number. 

For example, if year two personal inflation is 4% then:

£525 x 1.04 = £546 investing contributions per month in year three

Do the same for your investment target total and your target income to maintain your spending power when you decide to live off your portfolio. 

Personal inflation rate calculators

The only functional UK personal inflation rate calculator I can find is provided by UK fund manager’s Rathbones. 

It still requires you to track your spending. Rathbones is pretty vague about the methodology. 

The BBC host an ONS personal inflation rate calculator but it looks defunct.

There are a few US personal inflation rate calculators. They’re liable to be misleading as they try to squeeze you into Moses baskets representing different US inflation profiles. 

Remember, relatively small divergences can devalue your wealth many times during a human lifetime. For this reason you’re better off calculating your personal inflation rate by hand. 

Don’t blow yourself up

As investors and FI hopefuls we’re rightly warned to fear inflation like a baby chimpanzee is taught to fear snakes. Inflation is the serpent in the garden ready to make off with our nest egg if we’re not wary.

We’re too easily lulled by low official numbers. Meanwhile our goose is being cooked by a personal inflation figure nobody talks about. (Because if you do, people shoot themselves in the head.)

If you already track your spending then calculating your personal inflation rate is easy.

If you’re not tracking your spending – you should be! 

Take it steady,

The Accumulator

P.S. – I love this little detail about the RPI basket of goods from a paper on inflation:

Changes in the price of bacon are represented by back bacon and gammon: it is assumed that other cuts of bacon will, on average, move in line with these two items.

Jim O’Donoghue, Matthew Powell and David Fenwick. “Personal Inflation: Perceptions And Experiences.” 2007.

What caught my eye this week.

I enjoyed Indeedably’s post this week about his self-imposed silence on hitting a major financial goal:

In the end, I opted not to mention my arbitrary financial milestone to anyone in real-life.

Instead, I joined my kids on the couch for a game of Super Smash Bros, while icing my busted toe with a bag of frozen peas.

The lockdown kitten leapt onto my lap and settled down for a nap.

Shallow and vain creature that he is, he had already forgotten about his fleeting stolen food victory and recent water gun defeat. Now he was content to be friends, for at least as long as I was willing to stroke his fur.

I gave another wry chuckle. We were a fine pair!

It doesn’t get much more shallow, vain, and fleeting than celebrating arbitrary round numbers contained in a spreadsheet.

As a private individual who’s nevertheless run a financial blog for over a decade, I relate.

Money’s too tight to mention

I generally prefer to live financially incognito, here and in real-life. But it does cause some issues.

My Bohemian investor habits for example eventually had some of my friends asking questions – not unkindly – as the years wore on.

Even as they upgraded their hedonic treadmills with the latest bells and whistles, I was still living like graduate student.

Where, a few prodded gently, had it all gone wrong?

De-cloaking to buy my flat mostly alleviated these concerns, albeit at the cost of more questions. I usually change the subject!

(Most of my friends are supremely disinterested about both my investing and this blog, so they won’t read this. I return the favour by not reading their books, playing their games, or listening to their music. Hah!)

Family is even trickier. You’re liable to be offered help you don’t need for one thing, which makes you feel guilty.

I eventually had to share some numbers with my mum to stop her worrying.

Family also bring the issue of whether and how you should help who. I haven’t really got a strategy for that one yet.

Something got me started

Finally, as a writer, there are you lot, the readers.

What should you know? How much context is useful, how much voyeuristic or self-indulgent? Or is it maybe misleading not be more candid?

My co-blogger The Accumulator made a splash when he came out as Financially Independent last year. Lots of congratulations went his way, which was great. And almost nothing snarky – ditto.

But best of all, it was suddenly clear how inspiring and helpful it was for many Monevator readers to see him hitting that goal.

They took it as further evidence and motivation. They could get there, too.

If you don’t know me by now

I do sometimes wonder if I should be more candid about my finances.

I thought it when TA posted about hitting his FI number.

I often think I should when I see people struggling with the slog, and doubting whether this whole saving and investing malarkey really works.

(Spoiler: it really does.)

I even found myself this week alluding to previous investing success in a draft that I’m writing about one of my biggest investing failures.

If you only read about an investor’s bad days, you might well question why you’re reading him or her at all. So maybe it isn’t entirely vanity or insecurity that makes me want to sneak in a few disclaimers? We’ll see.

What about you? How much do you share with your friends, family, and co-workers?

And why?

Let us know in the comments below, and have a great weekend.

[continue reading…]

This guest article on the impact of the Covid-19 vaccine is by Lars Kroijer, a regular contributor to Monevator.

When the history of the pandemic is written, the 16 January 2021 may stand out as the first day there was tangible evidence that the vaccines were starting to have an impact.

With that day came the first seeds of hope that the terror, misery, and mayhem of this crisis will finally end.

Covid and its consequences

The tragic death count from Covid-19 looms largest in our minds, of course.

More than two million globally have died so far.

Beyond that – and Monevator is a primarily investing blog – Covid-19 has crippled the global economy.

Some sectors have come to a standstill. Investors are naturally reluctant to invest in businesses directly impacted by the virus. One year into the pandemic, and new variants of the virus, the uncertain number of people infected, and the varying speed of the vaccine rollout leaves huge uncertainties.

In this article I will argue that while there remains many moving parts and huge unknowns going forward, we already have early signs that the vaccine is working to beat back this virus. With this knowledge, we – and the markets – can then try to predict how vaccine programs will reduce deaths and hospitalizations in different countries.

This is good news. Not only because of the hope of a brighter future ahead and the saving of countless lives. But also because if we can introduce a bit more predictability into all this uncertainty, then investors and employers may dare to back and support sectors that they would otherwise avoid.

Finally we could return to business as usual.

Progress of Covid-19 vaccinations in Israel

On 16 January, Israel announced that its 7-day ¹ trailing deaths to 15 January had fallen from 5.25 to 5.18 per million people.

That’s about a 1% decrease.

On 17 January it was announced that the same number for 16 January was again 5.18. No change from the day prior.

January 18 & 19 had small upticks in deaths.

That was followed by another ‘smallish’ decline on January 20.

This path in itself may seem unremarkable. But stay with me.

Israel began vaccinating people the week before Christmas (Hanukkah there). By 24/25 December around 2-3% of its population had been vaccinated.

As in most countries, those most at risk of getting seriously ill or dying were vaccinated first. This means the percentage of the vulnerable population that has been vaccinated will be disproportionately higher.

Since then, Israel has continued to lead the world in vaccinations ². The chart below illustrates the fraction of the Israeli population that has so far received the 1st jab of the vaccine.

Share of Israeli population (LHS) vaccinated to-date

How effectively does the vaccine reduce death?

The different Covid-19 vaccines approved so far vary in their efficacy at preventing infection.

Expected success rates range up to 95% – that comes after two jabs, around three weeks apart – but science suggests the vaccines offer protection of approximately 50% from around 10-14 days of receiving the first jab, and rising thereafter.

This suggests the 2-3% of the population who had been vaccinated in Israel by Christmas would have roughly 50% protection by around 3/4 January.

After that initial protection level of approximately 50%, the resistance grows in the following weeks to provide around 90% protection.

So early vaccine recipients may only have been 50% protected in early January, but protection would continue to grow after that. ³

Israel has been using the Pfizer vaccine. Below is a table of how we could expect it to protect a recipient in the days following an initial jab.

Escalating protection for recipient from first Pfizer jab:

It is possible that vaccine efficacy will prove to be lower than expected. It’s very early days, but recently a medical expert from the Israeli government suggested just that.

However others have pushed back against some emerging doubts about Israel’s vaccination campaign.

As the efficacy numbers of the various vaccines become more concrete, we can re-run the model with updated numbers. For now though we’ll stick with what the efficacy studies have suggested so far.

By combining the number of people vaccinated with the time taken for the first jab to have an impact, we can get a sense of when vaccination began protecting some of the Israeli population:

The time taken between someone becoming infected with the virus before they unfortunately succumb to it varies a great deal. Factors include an individual’s resilience and the strength of the local hospital system (Israel’s is first rate). On average, 9-14 days seems to be generally agreed in the scientific community.

Of the 2-3% of Israeli’s population who had been vaccinated and had 50% (and growing) protection by early January, some will have gone on to contract Covid-19. A proportion will have died from it, but others survived because of that jab they received around Christmas.

This is where the tiny decrease in deaths I noted is potentially very significant.

Saved by the vaccine

From 1 to 16 January, Covid-19 cases recorded in Israel increased from 550 to around 950 per million people. (Not dissimilar to the UK).

That is a greater than 70% increase in the period, or 3.5% per day.

All else equal, you’d expect the 10 to 14-day post-infection death rate to eventually go up by a similar amount. A proportion of those infected in early January would succumb to the virus. The 7-day deaths per million in Israel would be expected to rise about 30%.

Yet in realty it declined, by 1%, in the seven days to 15 January.

Does this matter? Yes, hugely so

Israel’s trailing 7-day increase in deaths has not kept up with the 10 to 14-day prior increase in cases. Over the past couple of days, for the first time it has declined.

Something seems to be working and that is very good news indeed.

The next chart is of 7-day trailing deaths as a fraction of 7-day trailing cases, from ten days prior. While there is noise in the data, the trend is clearly downward. We presume this shows the vaccine having an impact.

Trailing deaths as a fraction of trailing Covid-19 cases in Israel

While Israel had ‘only’ vaccinated 2-3% of its population by Christmas, those vaccinated were in large part the most vulnerable.

We assume the likelihood of death from Covid-19 in this group is roughly 10-20 times that of the general population. We would expect deaths in this cohort to decline by around 20-40% once the vaccine has taken effect.

Limited precision

It is impossible to be more precise in estimating how deaths are curbed without knowing exactly who was vaccinated.

For instance, some vaccinated early will have been frontline workers. They are well-deserving, but not as likely to die from Covid as the very old or vulnerable. My 10-20 times figure assumes a mix of the approximately 25-30 times more vulnerable, and frontline workers.

It is impossible for me to be more precise with these numbers, considering the many moving parts and noise in the data.

But let’s assume my assumptions above are correct. Instead of 7-day deaths going from 100 to 130 in the trendline, it should remain at 100 deaths.

That is roughly what happened.

Looking forward to falling deaths

As vaccination continues, we will be able to partially check our maths.

We can already estimate how much likelier a vaccinated cohort is to die from Covid compared to the general population.

The first people to receive the vaccine were mostly very vulnerable. The next cohort is still vulnerable but a little less so. And so on down from there.

Below is a table with some assumptions on vulnerability to succumb to Covid by vaccination cohort.

You can see how vaccinating the more vulnerable first steadily increases the percentage protected who otherwise might have died from the virus:

For example, we assume the 4th percentile cohort of the Israeli population that is vaccinated – so number 300,000 to 400,000 of Israel’s approximately ten million people – are 7.2 times more likely to die from Covid than the average person. If Israel gets to the point where it has vaccinated 80% of the population, the last people it vaccinates will have a ‘death likely’ multiplier of less than 1. As the younger and healthier, they are far less likely to die from a Covid infection than the average of the population.

We cannot be too precise. New variations of the virus could evade the vaccine or diminish its efficiency, leaving early protection lower than 50%. Or perhaps the maximum efficacy of first jab could prove to be below 90%.

What’s more, the seemingly positive change in the past week in Israel could even be a short-term data aberration. Or perhaps Israeli hospital treatment or capacity has improved. (That’s unlikely though in light of the large increase in cases. You would actually expect this to lead to a disproportionate increase in deaths due to hospitals getting overwhelmed).

It could even be that reporting methodology of cases, vaccines, or deaths have somehow changed over the period.

But if the trendline has been broken and the recent decline in mortality in Israel is because of the vaccine, then it’s great news.

Deaths should go down very fast

Israel has now vaccinated an incredibly impressive 25% of its population.

Other countries like the UAE, the UK, and US are at around 19%, 6%, and 4% respectively.

Since these countries are largely vaccinating the most vulnerable people first, we should start to see declines in the death rates in the coming weeks here, too.

This is hugely positive. It saves many people and their friends and families the obvious horror of unnecessary death.

Even among those vaccinated who still get infected but do not die, we’d expect milder symptoms. This lessens the pressure on the hospital system. That should mean better outcomes for those that do get sick from Covid. Hospitals will be less likely to run out of ICU beds, ventilators and so on. (Remember deaths are a trailing indicator, not a leading one).

Also, reduced pressure on hospitals should free up capacity to treat non-Covid illnesses that have been put on hold. This should indirectly benefit many non-Covid patients (a positive externality that is not a part of this analysis).

Estimating a falling death rate from vaccination

Using the above logic, we could also approximate the number of deaths in a population from any delay in vaccinating. Especially in countries with high infection rates and low vaccination rates.

Some countries seem hopelessly behind in vaccinating their population. I don’t know how these delays are not a massive political scandal. It is not about being left or right on the political spectrum, but rather government competency. Some seem to be failing miserably and many elderly will die unnecessarily from Covid as a result.

Israel has set the standard. The logic developed below could estimate the number of additional deaths in a country that does not vaccinate as quickly and efficiently.

To check our assumptions against reality, we can compare what we would expect to be the impact of the vaccines on the trendline of percentage deaths of people who got infected 10-days prior with what actually happened in Israel once it began vaccinating.

In the week before Israel started to vaccinate, 0.9% of the people who contracted Covid ten days prior passed away. This percentage was fairly consistent with the period leading up to the start of the program.

Once Israel began to vaccinate, we would expect a 10-day delay before the vaccines started to offer protection. We’d then begin to see the death rate fall.

Refer back to the table above on deaths by cohort. Applying its assumptions to the fraction of Israeli’s vaccinated, we would expect to reduce deaths as follows:

We can also compare the expected decline in death rates to the actual decline in 10-day trailing death rates ⁴:

The death rate lines roughly correlate in the days after we expect the vaccines to start providing protection. That suggests our model is somewhat correct in predicting the fall in the number of deaths.

The obvious conclusion it that the falling death rate is a result of the widespread vaccination program in Israel. These are however very early days, and there could easily be noise in the data in the weeks ahead.

But as the line of the expected future death rate in Israel suggests, we can expect the number of deaths to continue down in that country as protection mounts.

Will vaccination also reduce Covid cases?

I have read some medical experts say that those vaccinated are less likely to be carriers who can infect others. But there is not a clear consensus.

If the vaccinated were less likely to be carriers it would be great news. It would lower the number of cases, as there’d be fewer spreaders in society.

What’s happened so far? We’d hope for case numbers in countries like Israel and the UAE to decline if the vaccinated were less infectious. But so far their infected counts have continued to rise.

This in itself doesn’t prove that vaccinated people can be carriers. It could be because there are more infectious variants of the disease spreading it faster. Or perhaps some people are starting to take post-vaccine life for granted, and so behaving more recklessly.

Time will tell. Hopefully we will soon start to see cases as well as deaths decline in the most vaccinated countries.

Also, as of around 20 January only around 15% of Israelis had received a vaccine in time for the effects to be felt.

Most of the population has not been vaccinated. Thus any potential reduction in infectiousness has yet to apply to them.

Again, the reason we expect the death rate to decline disproportionately is because those vaccinated early were the likeliest to die.

Closing the curtain on Covid-19 as a crisis

The creators and producers of the vaccines and our health workers are the heroes of our time. Help is on its way, and soon.

The daily Covid news is still bleak, but as the fourth most vaccinated country in the world the UK is actually performing very decently. Don’t lose hope now that the end is – hopefully – in sight.

In the UK, a body called the Covid-19 Actuaries Response Group has produced a similar sort of analysis to mine above. It estimates falling deaths as follows, taken from The Spectator:

It’s looking good. But the alternative to these (relatively) optimistic projections is almost too much to bear.

If such analysis is flawed and deaths do not decline, then something is not working. The future would be far grimmer. Let’s hope not.

Predicting a brighter life after Covid

What should investors make of all this?

The analysis above suggests that vaccinating even a small percentage of the population that are very vulnerable has a disproportional impact on the number of deaths and severe non-death cases. That will result in reduced pressure on the hospital systems.

It also means we can begin to predict with some accuracy what will happen going forward.

This greater predictability should help alleviate the fear factor in the economy. More companies and investors will believe things are getting better. As Covid deaths fall and pressure on hospitals eases, governments will look to reopen their economies.

Hopefully this will put more pressure on slow-moving governments to keep up with the likes of Israel, too. That could save the unnecessary deaths of thousands of the most vulnerable.

We all know Covid cases initially go up exponentially. My hope is that by dramatically reducing deaths and serious illness on the most vulnerable, the vaccine will quickly reduce Covid’s impact on society. Perhaps even in a shorter time frame than is currently anticipated.

Lars Kroijer’s book Investing Demystified is available from Amazon. He is donates all his profits from his book to medical research. He also wrote Confessions of a Hedge Fund Manager.

1. We use 7-day averages to avoid reading too much in to one-day aberrations, less accurate reporting on weekends and holidays, and so on. So basically, you add the number for today – say Saturday – and remove the number from last Saturday.[↩]
2. Closely followed by the UAE (which includes Dubai).[↩]
3. The second jab takes it up a bit further still, but importantly it also provides longer-term protection.[↩]
4. That is, we can compare 7-day trailing deaths ten days after the 7-day trailing infection number. So deaths on 15 January compared to cases on 5 January, and so on.[↩]