Senior Investment Editor
Summary: Inflation - the killer of cash - is back with a vengeance. This can have an immediate effect on your savings, but it also gives way for some interesting investment opportunities.
Global equity markets have had a historically good run since the financial crisis but have recently been halted by the silent assassin of cash savings – inflation. While the US central bank, the Federal Reserve, believes that the spike in prices is “transitory”, we believe that it could be a more long-term trend. “When you look at the components of the current inflation, we believe that it is structural, i.e., that it is here to stay, and not just a temporary bump on the road, which is an important distinction, when you evaluate the equity markets.” says Peter Garnry, Head of Equity Strategy.
Garnry further mentions that the very aggressive inflation we have now is likely negative for equities: “Some inflation is good for equities, but the high rates we see right now forces the central banks to react and tighten financial conditions. That’s bad news for equities, especially the ones that have seen heavy growth the past few years, because it increases the discount rate on free cash flows which in turn reduces equity valuations," he says.
What the picture above shows is that in the US, inflation has drastically increased in the end of 2021, but the American central bank, the Federal Reserve, is yet to adjust the so-called target rate. If inflation stays high, the Fed is bound to increase it, which could be a challenge for equities.
The ultimate financial pickle
When we call inflation the silent assassin of cash, it is because that is exactly what it is. Inflation means the increase in prices in society over time and is an important measure for how society – financially – is evolving.
But even though it is seen as an important and positive part of the global financial infrastructure today, it is less positive for large cash reserves and savings. Because when prices increase it means that you can buy less for your savings. Let’s look at this example – you have saved up 10,000 USD to buy a new car. The car you want costs 10,000 USD, but you decide to wait a year to have a bit of buffer. Next year – if inflation is at 2 pct. – the car will instead cost 10,200, so if you haven’t saved 200 USD dollars more, you can’t afford the car anymore. While 200 dollars in a 10,000-dollar budget might not seem like a lot, the compound price increases over time can be significant. That is why banks in general will advise you to invest your money, as the potential positive return you might get over time can help you keep your purchasing power.
But what do you then do in a situation where your cash savings are being killed by inflation faster than usual and the equity market seems to be trending down at the same time? “Generally, it is probably time to revisit what is called your asset allocation. This means the mix of investment assets like stocks, bonds, etc. as it could be time to move some money from equities into other instruments,” Garnry says.
You can get more inspiration from our Chief Investment Officer, Steen Jakobsen’s, 100-year portfolio here, where he looks at how a more inflation-prone portfolio could look.
If you have a long time horizon and still think equities is the way for you to go, some sectors seem better suited than others when interest rates increase and where uncertainty roams the financial landscape.
Looking at his own equity baskets, Garnry sees large discrepancies: “What you need to look at when evaluating stocks at a time like this is whether their valuations seem too high. I believe that growth pockets like e-commerce and bubble stocks will continue to suffer, as will tech-sectors due to the continued semiconductor-shortage, whereas I believe crypto, logistics and semiconductors might be winners. Apart from that, a situation like this generally suggests that high-quality, usually very large companies will do better than smaller ones,” he says. To see more about which equities have performed well during the recent inflation, read this article.
2024: The wasted year
Markets are driven by election optimism, overshadowing growing debt and liquidity concerns. The 2024 elections loom large, but economic fundamentals and debt issues warrant cautious investment.
As US economic slowdown hints at a shift away from exceptionalism, USD faces downside with looming Fed cuts. AUD and NZD set to outperform as their rate cuts lag. JPY gains on carry unwind bets and BOJ pivot.
Amid AI and obesity drug excitement, equities see varied prospects: neutral on overvalued US stocks, negative on Japan due to JPY risks, positive on Europe. European defence stocks gain appeal.
With the economic slowdown, quality assets will gain favour, especially sovereign bonds up to 5 years. Central banks' potential rate cuts in Q2 suggest extending duration, despite policy and inflation concerns.
Commodities poised for rebound. The "Year of the Metal" boosts gold and silver, copper awaits rate cuts. Grains may recover, natural gas stabilises. Gold targets $2,300-$2,500/oz, copper's breakout could signal growth.
Markets are driven by election optimism, overshadowing growing debt and liquidity concerns. The 2024 elections loom large, but economic fundamentals and debt issues warrant cautious investment.
As US economic slowdown hints at a shift away from exceptionalism, USD faces downside with looming Fed cuts. AUD and NZD set to outperform as their rate cuts lag. JPY gains on carry unwind bets and BOJ pivot.
Amid AI and obesity drug excitement, equities see varied prospects: neutral on overvalued US stocks, negative on Japan due to JPY risks, positive on Europe. European defence stocks gain appeal.
With the economic slowdown, quality assets will gain favour, especially sovereign bonds up to 5 years. Central banks' potential rate cuts in Q2 suggest extending duration, despite policy and inflation concerns.
Commodities poised for rebound. The "Year of the Metal" boosts gold and silver, copper awaits rate cuts. Grains may recover, natural gas stabilises. Gold targets $2,300-$2,500/oz, copper's breakout could signal growth.
