Apart from the raft of health-related issues including serious illness, death, pressure on health services etc which Covid brought to the world, we can also thank Covid for delivering a serious dose of inflation to the global economy. This has been brought about by restrictions on supply chains causing sharp increases in raw material costs, a tight labour market in the US and to a lesser extent Europe, and of course a sharp spike in consumer spending as economies open up.
As signs of inflation first appeared, the official stance of central banks was that it was a transitory phenomenon and would soon settle back and that the need for a policy response in the form of interest rate increases was not there.
This view has shifted considerably over recent months. A rate rise in the US in March is now a virtual certainty, likely to be followed by further rate rises later in the year.
In aggregate, we could see US interest rates rise by 1% or more this year. As we stand, a rate rise in Europe this year seems unlikely but nothing can be ruled out for the latter part of 2022 and early 2023.
Historic Harmonised Inflation Ireland
As a result of this backdrop, both equity and bond markets have been volatile since the start of 2022 and we fully expect that there will be continued bouts of volatility over the course of the next few months and beyond.
So, what is the best advice for investors in these circumstances?
- Do Nothing
It has been shown time and again over the past 50 years and longer that, as long as you are well diversified and have a reasonable time horizon, you are best advised to just leave your portfolio be. The best recent example was the very large stock market correction which occurred in 2008. Investors with well-structured portfolios experienced a full recovery of all losses within a period of less than eighteen months.
- Phase New Investments into the Markets
At most times, but particularly during volatile periods, it is sensible to phase any sizeable new commitments to risk assets. This can be done over two to three phases spread over several months. This significantly reduces the risk of making a large investment shortly before a significant market correction.
- Increase Your Exposure to Inflation Beating Assets
While no single historical episode is a perfect template for current events, certain sectors have historically performed relatively well during inflationary times. These have included the following:
- Property – rents tend to rise in line with inflation in most markets either through very direct lease clauses which index rents, or more indirectly as leases are renegotiated. These factors commonly result in property valuations rising in line with wider cost increases in the economy.
- Infrastructure – the returns built into many infrastructure projects are at least partly index-linked, thus providing a form of inflation hedge.
- Banks – Rising interest rates usually presents banks with an opportunity to widen margins and thus increase profitability and potentially raise the level of dividend pay-outs to shareholders.
- Commodities – while less directly linked to inflation, commodity prices do respond to levels of economic activity, and rising inflation is generally linked to expanding economic activity.
The important point to remember is that inflation should not be feared by long-term investors. It will lead to volatile phases in investment markets, but investors are strongly advised to resist the urge to sell.
Some amendments to portfolios may be helpful, but well-structured well-diversified portfolios should be well able to weather the market volatility over the medium to longer term.
As always, we are here to help. If you have any questions or concerns about inflation and the markets, your retirement plan or investing post retirement, contact Harvest on 01 237 5500 or email justask@harvestfinancial.ie and we will be happy to assist.