The World Has Changed… Are You Prepared?
While the current crisis may not have been what anyone wanted, it does necessitate reviewing your portfolio in light of the new realities.
I believe there is one fairly significant macro event that bears watching, and that would be the reemergence of inflation.
Current actions by the Federal Reserve and the government will likely be inflationary. How this complex web of government spending, bail outs, direct payments, market supports, and the like get funded, sows the seeds of inflationary pressures.
Inflation is unlikely to emerge immediately, just like the Johnson Administration’s “Guns and Butter” (Vietnam and Social Programs) spending didn’t create inflation for several years.
Today, we as a nation have agreed that the cost of propping up the economy now (government spending) is worth the potential problems it may cause in the future.
Also sowing the seeds of inflationary pressures, the calls to boost manufacturing at home.
Some of those calls will make sense. In the medical supply industry, I think we’re learning local production in times of crisis is critical. But increasing U.S.-produced content across all manufactured goods will be inflationary. The reason manufacturing fled the U.S. in the first place was due to the high cost of making things here, and that hasn’t changed. If we mandate or otherwise choose to produce more here, the cost of goods will rise.
From a planning and money management perspective, an inflationary future means you should consider being more conservative in allocating your portfolio. That includes making sure your investment strategy within each investment class is structured properly.
Take, for instance, a bond portfolio. Typically, increasing your allocation to fixed income is a means to get more conservative with your portfolio. However, not all bond portfolios are built the same, and some could actually be riskier should inflation pick up.
Our client’s bond portfolios are built with very short durations. That means they own bonds with short-term maturities.
When a bond matures, the proceeds are reinvested in new short maturity bond. This approach will give us tremendous flexibility should interest rates begin to rise. We are not locked into today’s low rates.
With investments in stocks, we also factor in what the new world will look like in terms of which companies will do well, and which worse. We have to ask the question how will stocks perform in an inflationary, rising interest rate environment?
The last time this country experienced meaningful inflation was the 1970’s. The value of stocks collapsed at first. Then, after a partial recovery, stock prices became range-bound for many years. On August 13, 1979, Businessweek magazine ran a cover declaring “The Death of Equities!” begging the question, “is stock investing dead?”
Yes, they concluded. It was.
That’s what you’ll start hearing if inflation picks up. People will look to the past and report on the experience of the 1970’s. They will tell you that in an inflationary economy, stocks are not the asset to own.
But there’s an interesting twist they won’t tell you... It was the stock market’s indexes that performed poorly in the 1970s, and (although that means the average stock did not perform well) many individual stocks did quite well throughout. According to an article in Seeking Alpha, total price appreciation of the S&P 500 during the 1970s was an anemic 17.2% compared to the 315.7% during the 1990s.
What that means for us is that after decades of investors coming to believe the only way to own stocks is through index funds, a resurgence in inflation could make that exactly the wrong way to own stocks.
Indeed, today is the day to do that planning so that you are prepared for whatever comes next!