inflation

Pump Up the Prices: Putting Inflation in Perspective
graphic shows a dollar bill inflated

We’ve been hearing plenty out of the Federal Reserve Board from the business news outlets in recent weeks. Every wiggle of the Consumer Price Index has been dutifully tracked and reported, for those on inflation-watch. With recent inflation measures above the FRB’s 2% target, the finger-pointing becomes bigger news than the numbers themselves.

While we have fingers that are capable of pointing, we know they have better uses. One such use is preparing your portfolio to account for inflation. And this may actually take less energy than pointing and wagging our fingers after all!

When inflation dominates headlines, straight-line thinking starts taking over: how will we afford to buy groceries when gas is $300 a gallon? (I’m going to guess that we would find cuts elsewhere, like our cable bill, well before we starved.) And investors sometimes hop out of the market because the cost of doing business gets higher.

And those high-growth, pre-profit darlings will take a hit because a rise in interest rates—nominally to combat inflation—means these companies will pay more for the money to continue their pre-profitable journey.

When we invest in individual companies, we’re able to spot those holdings that benefit from a position of strength, whose business gives them the pricing power to ride out inflationary pressures. We’re excited about these holdings, and since we’re investing for the long haul, we’re expecting to ride along through multiple periods of rising and falling rates.

When we stretch out our time horizon, these major events look more like occasional bumps on the road to wealth.

So, in a way, we’re already investing for times of higher inflation. We make no guarantees that our way is better than any other, but we recommend caution when anyone acts like they have a crystal ball for this topic.

Let’s zoom out even more. At its core, asking about “when to get out” means that an investor will also have to ask “when to get back in”: success would require the investor to be lucky twice. We don’t prefer any scenario that slashes our odds so unnecessarily.

Clients, when you have questions or concerns, please reach out.

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Bumps on the Road to Wealth: How to Invest for Times of Higher Inflation

When inflation dominates the headlines, it can feel like prices are headed up and up and up forever! But it’s never really a straight line, is it? Putting inflation in perspective.

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Keeping a Singular Focus in a Global Whirlwind
graphic shows a whirl of light points circling a blue outline of the globe

Clients, some of you have reached out to talk about the latest global developments and their implications for our work together. 

We’re watching the news carefully, like everyone else. The hopeful view, if there is one, is in the vibrant and quick response by NATO, the EU, as well as what might be called a Western alliance and our allies around the world. These organizations are responding to a situation which could clearly continue to escalate. And those American politicians and media platforms most influenced by Russia do not seem to have much sway in shaping public opinion overall, thank goodness. 

Ukraine was said by some to be a threat to Russia, for talking up increased ties to NATO and the EU: this is a pretense to reframe aggression as prevention. Putin is like the farmer insisting he doesn’t want to buy all the land—just what adjoins his own. If Ukraine were assimilated by Russia, then would Poland pose a similar threat next? And then maybe Germany and France in turn? 

Russia’s economy is small, as a share of global trade. The problem is in the raw materials and energy on which the rest of the world has come to rely. Ukraine likewise is a significant exporter of crops and natural resources. The disruption to these markets will probably exacerbate inflation; a recession may well result. (Remember, though, that one is always on the way.) If energy costs, for instance, continue to rise—and they could—it is hard to see how the sales of all other goods and services avoid shrinking. 

It is also important to remember that, technically, a recession is a decrease of any size in GDP for two quarters running. So if we had a quarter where we were at 99% of the record quarter before, and then did 1% less again the next quarter, that’s a recession. So we should never assume “what the next recession will mean” without some context and perspective. 

The crosscurrents in the markets have been vicious. We’ve made portfolio changes cautiously, of course. We always want to make sure we can meet your needs for cash flow while keeping your long-term goals in the picture. 

The key thing is, we can meet your need for cash flow without selling anything at a bad time. We can wait out a downturn whenever it comes, and we’ll seek to make the best of it by swapping into holdings likely to recover the fastest. 

No guarantees. But clients, you’re watching things; we’re watching things. Call or email me with questions or concerns.

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“Fed” Up With Inflation
photo shows a $1 bill inflated like a pillow

Recent weeks and months have been tumultuous in the stock market, and if you listen to market commentary, you will see one word come up over and over: inflation.

The funny thing is, market commentators cannot seem to decide whether we have too much or not enough. Many commodities started dropping a few months ago, driven by fears that inflationary prices would lead to a recession. When it looked like inflation was starting to level off, the same commodities dropped more. And then the Federal Reserve said it was satisfied with the way inflation was leveling off. Investors started worrying that the Fed was too complacent about the possibility of further inflation.

So guess what happened? Commodities dropped further still.

The moral of the story seems to be that the markets will do what they want in the short run and that market commentators will find excuses for it.

But we do believe that inflation will have a noticeable impact in the long run, and this poses many risks and opportunities for all of us.

With all the government stimulus money floating around, it might seem like inflation is inevitable. But the supply of money is only one side of the equation: money’s value depends on the supply of money versus the supply of all the things we want to spend it on.

For now the supply of money is up (due to the stimulus), and the supply of stuff we want is down (due largely to last year’s shutdowns and disruptions). The government’s hope is that as the next normal arrives, the supply of stuff will catch up to the supply of money—and inflation will settle back down.

Maybe that happens, maybe not. But we are less interested in what inflation does in the next year or two than we are in what it does in the decades ahead.

Everyone wants to build a bigger, brighter future. We are seeing an unprecedented demand for raw materials to make that happen, on top of the equipment and expertise to transform those materials into useful products. Whether we have a little inflation or a lot of inflation, this position strikes us as a good time to be in business for the companies producing raw materials and the ones manufacturing finished goods from them.

We do not know with certainty when or if this will play out. It may take years or decades. Even then, it may not come to pass the way we’re imagining.

But we think these big-picture trends will be more important in the long term than what the Fed announces this week or the next.

Clients, would you like to talk about this or anything else? Write or call.

The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful.

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That ’70s Post
photo shows a close-up of the 1970s LOVE postage stamp for 8 cents

A TV sitcom from the turn of the millennium, That ‘70s Show was the story of teenage friends in the late 1970s. A period piece, the trappings of the show remind me how dramatically the life of the American consumer has changed—and yet the ’70s might come around again.

No, we are not going back to a time when the great new retail products included patented suitcases with wheels, Mr. Coffee automatic coffee makers, and Pong games. But for certain economic trends, That ’70s Show might seem more relevant once again.

Back then, inflation and interest rates were at multidecade peaks, up in the teens. Commodity prices were roaring higher, and shortages emerged. For forty years now, interest rates and inflation have been sliding: rates for each have been near zero for years.

Perhaps, finally, the trend is changing. Inflation rates and interest rates may rise again—perhaps persistently, for a period of years. No one knows for certain.

Inflation means rising prices. Just consider the changes you might have noticed recently with houses and cars and lumber, even our groceries and gasoline. Seems prices are on their way up, quickly in some places.

These things have major effects on the investment markets. Bonds and other fixed income investments may struggle if interest rates move higher; commodity producers may benefit from rising prices. Keep in mind that winners and losers emerge when things change.

We may be getting that ’70s feeling in some ways, but it’s a good reminder that history has provided a solid foundation for our work here with you.

Clients, if you would like to talk about this (or simply reminisce about the ’70s), email us or call.

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Odd Couple (of Goals)

Surveys indicate the public’s trust in the Federal Reserve has been declining over time. We totally understand this result.

The Federal Reserve, like other central banks around the world, plays a significant role in setting monetary policy. It operates under mandates written in law to promote full employment and price stability. Presumably, most people would be in favor of these worthy objects.

In practice, however, it seeks to raise the cost of living by 2% every year: that’s the actual effect of the goal we typically hear about, to hit an “inflation target of 2%.” That term is a less clear way of saying “raise the cost of living.” How many of us actually want that?

Now add in Federal Reserve policy on interest rates: keep them near zero for the next few years. So if the cost of living is rising and we earn next to nothing on our savings, then we are really going backward in purchasing power. A dollar of savings today plus zero interest for the next year and we will be short by 2 cents to buy the same amount of goods a year from now. That is a risk to our financial position.

This really is an odd couple of goals. It is rough on savers and people on fixed incomes.

The Federal Reserve has its rationale for all this, of course. It believes that a little inflation is good for the economy and that we are prone to have our spending manipulated by its policies for the short-term benefit of the economy. A better economy means more jobs, which is generally good for each of us.

We have our doubts about the logic. Fortunately, we can try to invest to take advantage of the opportunities these policies present. If we are willing to live with fluctuations in value, we may still be able to earn returns.

We believe it was simpler when savings had positive returns, but we are here to make the most of it.

Clients, if you would like to talk about the risks and rewards of investing and saving, please email us or call.

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Too Close to the Sun

© Can Stock Photo / Paha_L

In Greek mythology, Daedalus constructs wings of feathers and wax so he and his son Icarus may escape from the island of Crete. Although warned against flying too close to the sun, Icarus becomes giddy with the sensation of flight. His wings melt when he gets too close to the sun, and he crashes into the sea and drowns.

This tale of hubris is perhaps mimicked in our time by central bankers around the world. Central banks including our Federal Reserve Bank are charged with conducting monetary policy to achieve stability of prices and favorable economic results. The stresses of the last global recession induced some of these authorities to adopt unprecedented policies.

Among these ideas, the most unusual might be negative interest rates. If we think of the rate of interest as a price – the price of money – then the concept of negative rates seems insane. If bananas had negative prices, producers would have to pay you to take them.

There are practical problems, too, for savers and investors. Imagine having $100,000 in the bank today. After a year of -1% interest, you would have, say, $99,000. “Money in the bank” would no longer be like money in the bank.

Why would central bankers consider such a policy? Like Icarus with his wings, they seem intoxicated by their apparent power to manipulate the economy. Negative interest rates would be a strong incentive to reduce savings and increase spending. This could theoretically boost the economy.

The unintended consequences of their actions could create real problems. Average folks trying to save for the future were severely disadvantaged by the zero interest policy of the last decade. Negative rates would make that even worse.
The Federal Reserve has not yet gone below zero. But a research paper published by a Fed official earlier this year concluded that “negative interest rates might be a useful tool…”1

Clients, our concern over this trend in Fed thinking bolsters our conviction about the investments we hold that would potentially benefit from the unintended consequences. No guarantees: we wish central bankers would simply avoid flying too close to the sun, so to speak.

Clients, if you would like to talk about this or anything else, please email us or call.

Notes & References

1. “How Much Could Negative Rates Have Helped the Recovery?”, Federal Reserve Bank of San Francisco. https://www.frbsf.org/economic-research/publications/economic-letter/2019/february/how-much-could-negative-rates-have-helped-recovery/. Accessed June 25th, 2019.

Content in this material is for general information only and not intended to provide specific advice or recommendations for any individual.

The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful.

Easy Money, Hard Truths

© Can Stock Photo / alexskopje

If you follow market commentary, you may have noticed a lot of attention being placed on Federal Reserve Chairman Jerome Powell. After a series of interest rate hikes, the Fed has started pumping the brakes and some market watchers—the President among them—are hoping for interest rates to go back down, or even a return to the Fed’s “quantitative easing” policy.

It is easy to understand the appeal of easy monetary policy. Being able to borrow money cheaply helps fuel economic growth. Corporations, individuals, and governments all benefit from being able to take out lower interest loans.

That growth comes with strings attached. The cheaper it is to borrow money, the more borrowed money accumulates on balance sheets. In moderation, borrowing money allows people and companies to accomplish things their own money could not. But those debts eventually come due, and not all of them always pay off. Too much debt can have catastrophic results.

We do not need to look far into the past to get a glimpse of the consequences that overly easy monetary policy can have. Not even 10 years ago there was widespread panic about the possibility of Greece’s national debt dragging the whole Eurozone down with it.

How did this happen? Greece was a developing country with a growing economy, but Euro monetary policy was dominated by larger countries with slower economies that wanted looser money to fuel their own growth. For Greece, that loose money just wound up inflating their debts into an unsustainable bubble.

We have been concerned for some time about signs that corporate and government debt in the U.S. may be growing into a massive debt bubble, and we are not alone. In our opinion, the last thing that the economy needs is even more debt. We hope that cooler heads prevail and the Fed agrees with us.

Clients, if you have any questions or concerns, please give us a call.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful.

Four Trends for Fall, 2018

© Can Stock Photo / Elenathewise

The gap between consensus expectations and reality as it unfolds is where we think profit potential lives. This is why we put so much effort into studying trends, and the ramifications for investors.

One year ago, we wrote about four trends. The next energy revolution (solar + batteries), long range prospects for the world’s most populous democracy, the airline industry, and rising interest rates continue to play roles in our thoughts and portfolios.

Other ideas are also in play.

1. Thinking about the next few years, our highest conviction idea is inflation will exceed consensus expectations. Some of the ways we act on this belief may provide some counterweight to other portfolio holdings, since inflation hurts some industries while it helps others.

2. As the economic expansion lengthens toward record territory, the desire to extend our lifespan tends to be insensitive to the business cycle. Biopharmaceutical companies, working on cures for everything from Alzheimers to various forms of cancer, seem attractively priced.

3. The trend toward rising interest rates, noted last year, may have an effect on weaker and more leveraged companies. We are looking to avoid the second-order and third-order effects that higher rates may have on some borrowers.

4. US stocks have become popular relative to international equities, with dramatic outperformance over the past decade. At some point the trend changes, and better value usually wins out.

One of the difficult things about being contrarian–going against the crowd–is that we sometimes look silly. When everybody else is having more success in the short run while we search for bargains, it can be tough. But that is what we do. We’re excited about the continuing evolution of your holdings as the future unfolds.

We can offer no guarantees except that we will continue to put our best effort into the endeavor. Clients, if you have any questions or comments or insights to add, please email us or call.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful.