Inflation Falls to Lowest Level in Over a Year: What it Means for Investors

In mid-2021, inflation began to rise exponentially across the world. As economies emerged from the peak of the Coronavirus pandemic and people were once again spending money they’d saved during the multiple lockdowns, supply chain issues meant companies struggled to meet a drastic increase in demand, and the war in Ukraine and soaring energy costs further exacerbated the situation in early 2022.

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UK inflation peaked at 11.1% in October 2022 – a 41-year high and a staggering way off the Bank of England’s (BoE) target of 2% – and for investors, this surging inflation had several consequences. 

Firstly, savings rates failed to keep pace as they hovered around historic lows and holding cash in savings accounts risked the value of capital being eroded over the long-term, with its purchasing power diminishing. Analysis from AJ Bell suggested that as much as £113 billion may have been wiped off the value of the nation’s savings over the past year due to rising inflation.

At the same time, the equities markets were also being impacted by the uncertainty generated by rising inflation, subsequent rising interest rates and a string of unprecedented world events, causing considerable volatility and a lack of confidence in the markets.

As a result, many experienced investors looked for alternatives to the traditional cash and stock options which may be able to help dampen volatility and target attractive returns – with the Innovative Finance ISA (IFISA) proving an important consideration for this. 

The IFISA allows investors to hold alternative assets – such as property bonds and SME loans – within the tax-free ISA wrapper, offering target returns often in excess of 9% that are completely shielded from tax and uncorrelated with those more traditional investments. 

Data recently released from HMRC shows that subscriptions to IFISAs increased to £144 million in 2021/22 from £92 million the previous year, showcasing investors’ increasing confidence in the product amidst a challenging investment environment. 

And as of June 2023, UK inflation is sitting at 7.9%, its lowest level since March 2022. This remains much higher than the BoE target, but it does represent a bigger drop than was expected, with City originally forecasting a more modest fall from May’s 8.7% figure to 8.2%.


How falling inflation could impact investors

Just as rising inflation affected investors in a number of ways, falling inflation does, too. It’s important to note that 7.9% inflation is still considered particularly high, with the UK’s inflation rate remaining the highest among the G7 group of advanced economies. 

But this rate of inflation also means that many IFISAs are once again targeting inflation-beating returns, a positive for investors looking for potentially significant capital growth. 

It also means a decrease in pressure on the BoE to continue aggressively raising its base rate, which is currently at 5%. June’s bigger than expected fall in inflation has resulted in financial markets no longer expecting the BoE base rate to rise as sharply as previous forecasts suggested, which is good news for property investors in particular as it gives the housing market a boost. 

Proving itself a resilient asset throughout the challenges of the last few years, property has still, as expected, been impacted by rising inflation and the BoE’s efforts to curb it. The cost of living crisis aided in easing the exceptional demand for housing witnessed during – and in the immediate aftermath of – the peak of the pandemic, but the UK housing market has still remained much more buoyant than many expected. 

And falling inflation is a tentative sign that lessening affordability pressures could be around the corner for prospective homebuyers, with Rightmove’s mortgage expert Matt Smith stating “after the market turbulence over the last two months, the signs are there that mortgage rates are reaching a peak [...] those looking to take out a mortgage soon will have been heartened by [the] positive inflation news, which saw June’s rate fall by more than was anticipated”. 


Targeting inflation-beating returns with the property-backed IFISA

After an extended period of high inflation, signs that it could be on its way down at a quicker pace than expected are no doubt welcomed. 

But whilst it may be at its lowest level in over a year, 7.9% inflation still means cash savers are facing the erosion of their capital. Though savings rates have been rising lately in response to BoE base rate increases, the best easy-access savings account at the time of writing offers a rate of just 4.53%, and this drops even lower to 4.25% for a tax-free Cash ISA. 

However, it’s clear that utilising the annual ISA allowance to invest into a property-backed IFISA and target tax-free returns often in excess of a now inflation-beating 9% could be a key consideration for experienced investors willing and able to take on more risk in return for potential capital growth.