The Times They Are A Changing
An Inflation Super-Cycle Spring Loaded
How did we get here?
Conservative investors have had the luxury of a falling interest rate environment for the past 40 years. This meant they could park their money in bonds that were backed by the Federal Government, get a healthy yield, and have those bonds increase in value over time. How nice does that sound? Hard to imagine that the yield on the 30-year Treasury Bond was around 15% in the early eighties.
Fast forward to today and the 30-year yield is near-zero which is actually below zero when you subtract inflation. And that is not the worst of it. Yields are spring-loaded and poised to rise for years to come and the people who are going to get hammered are conservative investors. Namely, those people who are near or in retirement.
This situation has been created, in large part, by the Fed keeping rates artificially low dating back to the Greenspan years. And compounded by his successors (Bernanke, Yellen, and Powell) with Quantitative Easing (QE) and their response to the pandemic.
QE was supposed to be a temporary fix for an economy that was collapsing as a result of the financial crisis. The irony is that the crisis was the unintended consequence of an artificially low-interest-rate environment put in motion by Greenspan. Then the Fed attempted to fix it with even more aggressive measures (QE) to keep rates low. Bernanke sold QE to the public by saying he would unwind it after the crisis was diverted and the public took him at his word. The Fed then reneged on that promise and as we all know, the printing presses continue to run at breakneck speed.
If this topic interests you, I would recommend this book:
Fed Up: An Insider’s Take on Why the Federal Reserve Is Bad for America, by Danielle DiMartino Booth
The stage is set. There is no turning back now for that would be political suicide. Although the longer this continues the bigger the bubble.
The times they are a changin
And you better start swimmin’
Or you’ll sink like a stone
How Will Inflation Impact Your Investments?
First, the investors that are going to be most adversely affected are conservative investors using a buy-and-hold investment strategy. They can no longer hide out in interest-rate sensitive bonds. Those days are long gone.
Interest-rate sensitive bonds are now set to lose value for years to come. As interest rates rise, the value of bonds fall. And the interest rate paid today will pale in comparison to the interest rates paid in the future. Not a good deal!
How are conservative investors going to deal with this? They need to allocate roughly 40% – 50% of their portfolio to bonds to hedge their equity market risk and lower volatility. They might be tempted to allocate that portion of their portfolio into more aggressive, less interest-rate sensitive bonds like Investment Grade and High Yield Bonds. These bonds will not lose value as rates rise because their values are more aligned with the economy and thus tend to perform well when stocks perform well.
And there is the rub! They lose the ability to hedge the risk in the equity portion of their portfolio. Whereas Government Bonds would usually increase in value as stocks fell, especially during major bear markets. Corporate Bonds will fall with the stock market.
This is a HUGE problem for a retiree who can’t afford to lose a significant portion of their savings because they don’t have the time to make up the loses, they are not making contributions to their accounts anymore, and income withdrawals compound the degree to which their accounts fall in value.
On the equity side, certain asset classes are going to substantially outperform. It is important to have a portfolio that is allocated in those stocks that benefit from inflation.
We are already starting to see some inflation assets outperform. For example, I have been talking about Gold for months. Gold is the premier asset for times of inflation and it’s long-term chart pattern combined with the current economic environment suggests that it has the potential to be a leader for years to come.
Want My Opinion?
If you are worried about how your retirement accounts are allocated and interested in getting my opinion, send me an email. I will be setting up a handful of appointments with investors, at no charge, over the next few weeks.
The way it works is that you send me your most recent statements or a spreadsheet of your account allocations and I will analyze them for you. We will then set up a virtual meeting where we will discuss things such as:
- Are you allocated appropriately given your situation?
- How much risk are you taking and how much should you expect to lose in a typical stock market correction.
- I will point out any red flags I see that you may not be aware of.
- And of course, I will be able to answer any questions you may have.
Craig Thompson, ChFC
Asset Solutions Advisory Services, Inc. is a Fee-Only Registered Investment Advisor specializing in helping the needs of retirees, those nearing retirement, and other investors with similar investment goals.
We are an “active” money manager that looks to generate steady long-term returns, while protecting clients from large losses during major market corrections.
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