Investors of a certain age, almost all, remember the last bout we faced as a country in terms of serious inflation, back in the late 1970s and early 1980s.
Those years of rising prices baked into the economy came to head with double-digit price increases and, shortly after, a rapid increase in interest rates in response. Mortgage rates in the early 1980s topped out around 18%!
Since then, inflation has been mostly an academic issue, discussed among economists and policymakers but not really front-and-center for ordinary Americans. As a result, most people can be forgiven for not fully understanding what inflation means.
I explain it like this: Say you enjoy eating an occasional steak dinner out. You get used to paying about $35 for a meal but then one day you get the check and, to your shock, the bill is $50!
There are a lot of “factors” to a restaurant steak dinner. Consider the cost of beef and the overhead of running a kitchen, such as rent and salaries for servers and chefs — it all adds up.
The price of a gallon of gasoline can be volatile, and the cost of imported items such as clothing and toys actually have gone down over the years, but a steak dinner is the kind of expense that, once it goes up, it tends to stay up. The owner might try to absorb those increases for a time but, eventually, he has to pass it on or shut down.
As we know from history, widespread, systemic inflation can be devastating if it gets out of hand. Inflation, otherwise, is typical in a growing, dynamic economy. Since 1914 it has run 3.2% on average, with some notable highs and lows over the decades.
What steady, long-term inflation means, however, is that every dollar you hold today is losing purchasing power, bit by bit. You can’t get coffee and a slice of pie for 50 cents and a movie ticket no longer costs $1 for an all-day matinee, like it did in the 1950s.
Prices you might consider normal today, such as whatever you pay for a steak dinner in your locale, will seem antiquated in 20 years, too.
The broad predictability of inflation is why it is important for investors to own investments and not simply hold cash. Investments must grow at a rate equal to or better than the inflation rate to avoid inevitably losing value.
The Rebalance Investment Committee saw the risk of inflation coming well before the headlines you see today. The committee includes Burt Malkiel, the Princeton professor who wrote the investment classic A Random Walk Down Wall Street; Charley Ellis, the former longtime chairman of the Yale University Endowment; and Jay Vivian, the former managing director of IBM’s $100-plus billion in retirement investment funds.
In April, shortly after the outbreak of the pandemic, Rebalance tilted its portfolios in favor of investment classes that could weather the kind of inflation spike that might follow from an unprecedented “blank check” monetary response from the government.
Long-term thinking
In most portfolios, a fund that features 400 high-dividend paying stocks was added, including AT&T, Procter & Gamble, Intel, and JPMorgan Chase. In two of the growth portfolios, we added a fund that includes Treasury Inflation-Protected Securities (TIPS). These specialized government bonds automatically guard against rising inflation.
There is no crystal ball. The brightest economic minds in the world wrestle daily with the question of whether the price increases currently being seen will stick or fade over time.
Nevertheless, as asset allocators, it is imperative to assess all kinds of risk, including inflation risk. Similar to investment committees of large foundations and university endowments — Rebalance uses prudent, long-term thinking that aims to support a steady investment return and to minimize surprises.
As wealth managers, of course, we must be more nimble. There are a range of client goals to consider, and that’s why Rebalance has a variety of risk-return profiles and portfolios to match. It’s why we have regular, in-depth conversations with clients about their whole financial picture, in order to balance that risk accordingly.
As those of us in California know, no one can seismically reinforce their home during an earthquake. If someone lives in the East, imminent landfall is not the time to go shopping for hurricane shutters.
Likewise, Rebalance’s Investment Committee is always looking ahead, putting their considerable collective experience to work to ensure that the investments we make for Rebalance clients perform as expected, year in and year out. It’s what our clients expect and deserve for trusting us with their money.
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