Why You Should Care about the Consumer Price Index

The Consumer Price Index is commonly referred to in investing circles. If you are an investor, understanding what the Consumer Price Index is and how it works is very important. Here are the basics of the Consumer Price Index and why you should care about it. 

Consumer Price Index

The Consumer Price Index is an index calculated by the U.S. Department of Labor's Bureau of Labor Statistics. This index was originally created as a way to measure the change in prices between identical products over a certain period. For example, they would look at the price of a box of cereal on one day and then look at it in a year to see if the price had changed. They would do this for many different products and then total up the findings.

In more recent years, the index has been used to determine the changes in the cost of maintaining a constant standard of living. This means that it is now looked at as a way to figure out the cost of living in the United States today. It is also used to determine the real gross domestic product for the United States every year.

What It Tells Us

This information can be very valuable to Americans and investors in general. By looking at the consumer price index, you can get an idea of what inflation was for the previous year. Knowing how much inflation is can be very important, as you are looking at different investment options and determining the performance of your own investments.

Real Returns

Every investor should spend some time looking back at the performance of her investments over the previous year. This is necessary in order to determine if your investments are going to be good enough to keep for another year or if you should liquidate them. 

When you are trying to determine how your investments have performed, it is important for you to look at the real returns of the investments in your portfolio. If you simply look at the rate of return for your investments, you are not going to be getting the entire picture. You need to look at the real returns, the amount of money that you made after inflation. In order to know how much money you made, you need to subtract inflation from the returns on your investment. For example, if your stock brought you a 7 percent return for the year and inflation was 3 percent for the year, you would subtract the 3 percent from the 7 to get a real return of 4 percent. 

Impact

In some cases, inflation can directly affect the performance of investments. For example, there are I bonds that you can buy from the United States Treasury that are directly affected by changes in the Consumer Price Index. In this case, the bonds are awarded an amount of interest that is equal to the change in the Consumer Price Index plus a fixed amount of interest. 

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