It doesn't really matter where we are currently, there’s significant inflation going on. 7 and 8% in the US, 5 and 6 in the UK, parts of the eurozone are recording 11% (Holland just recently). This makes the prime directive of our long-term savings plans the imperative of preserving the capital value of those savings. If we do nothing by the end of the year, our money will be worth that 6 or even 11% less after all.
So understand one very important thing here. We are dividing money into savings and trades here. Savings is what’s going to pay our pension, trading is in and out on short-term movements. Now, over the longer term, prices will move on those savings-related issues. Trading is being able to anticipate them and get in and out over the period of the price changes. So the analysis that follows works for both, for savings and investment, just over different time scales.
Given that interest rates are still on the floor, at 2 and 4% even for most corporate bonds, that means that bonds just aren’t where we want to be. That’s a guarantee of losing money over time. Commodities, property, they’re both linked into the more general economic cycle, and we’ll come to that. Crypto, NFTs, they’re all new since the last time we faced general inflation, so no one really does know how they’re going to react.
This leaves us with equities, but which ones? The experience of the 1970s, the last time markets as a whole had to deal with substantial inflation, is that we want to be in companies that have at lowest some pricing power. Also those making profits now, paying dividends. Inflation itself means that those promises of profits in the future common to growth companies are worth less today.
Now, this is what got investors through the inflation the last time around, and there’s no great guarantee that the same will be true this time. It’s also not true that all growth companies will be worth less – just that the class of them will be worth less than more mature companies.
But the analysis leads us to those companies which are really very much out of fashion these days, perhaps for ESG reasons. The tobacco companies (Philip Morris (NYSE: PM), Imperial Brands (LON: IMB)), the oil majors (BP, (LON: BP) Exxon, (NYSE: XOM)) and the catch all classification of “fast-moving consumer goods”.
The difference between investing and trading here is that if we’re investing we want to have a good idea of what’s going to be true in 5 years' time or more. Trading is about leaping in and out of the price movements that lead to those positions in the future. The base analysis is still the same.
An inflationary environment is very different from what we’ve been used to over these past few decades. The investing rules will likely to highly different. The premium is going to be upon real cashflow, profits now, which lead to dividends paid to shareholders.
The other thing we might note. These are the companies we expect to be able to increase prices during the inflation. Largely because these are the prices which are that inflation itself, of course.
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Tim Worstall is a freelance writer specialising in economics and the financial markets.