The price spiral not only clogs the economy and increases the risk of recession, it depreciates the value of what remains of an investor’s equity gains. Since the pre-Covid peak of February 2020, the S&P 500 has appreciated 11% per year, well above the historical average. But inflation was 5.2% over the same period, absorbing almost half of the increase in equity.
It’s a brutal punch that gets worse in a shorter target, with this year’s 14% decline worsening when stacked alongside soaring consumer prices. Adjusted for inflation, the S&P 500 has lost value at an annualized rate of about 40%, worse than any full year since 1974, according to data compiled by Bank of America Corp.
The data contradicts a popular narrative that stocks can serve as a safe haven in times of high inflation. They also show the danger of following any old playbook in the post-pandemic world where the Federal Reserve embarks on an aggressive cycle of rate hikes to dampen growth.
With the exception of commodities, all major financial assets have lost money in real terms over the past year, including Bitcoin, something crypto bulls once touted as a store of value.
“We are currently in the worst part of the market cycle,” Dennis DeBusschere, the founder of 22V Research, wrote in a note Monday. uncertainty about what MORE the Fed needs to do to slow growth/inflation.”
Since price pressure began to mount in April 2021, Bitcoin has lost around a third of its value as investors dumped risky assets in anticipation of tighter central bank policy.
Fixed income securities also suffered heavy losses. Investment grade bonds are down 10% over the past year, followed by a 7% drop in Treasuries and a 5% drop in high yield. Even those meant to operate as an inflation hedge are losing money, with Vanguard Short-Term Inflation-Protected Securities Index Fund (VTIP) and iShares TIPS ETF (TIP) down 3% and 6.7% , respectively.
Betting on equities as a safe haven during the inflationary storm didn’t work either. The 1% drop in the S&P 500 over the past year translates to a real loss of almost 10%, when you take into account the latest annualized inflation of 8.5%.
The actual performance is even worse for the technology-heavy Nasdaq 100 and the small-cap Russell 2000, which are down about 15% and 25%, respectively.
“Anyone who tells you we’re in a bull market has a lot of explaining to do,” said Mike Wilson, chief U.S. equity strategist at Morgan Stanley. “Perhaps equities are no longer the inflation hedge investors expect.”
This argument argued that US businesses tend to benefit from a high inflation environment, in part because they can pass on rising costs to end consumers. And that earnings resilience can help stocks thrive.
Earnings estimates for this year and next have increased over the past 12 months. Yet as the Fed pledges to raise rates to tackle inflation at its highest level in four decades, the specter of rising borrowing costs has triggered a rapid reassessment of stock valuations and a large massive sale.
Commodities have rallied, with a Bloomberg measure that tracks everything from oil to wheat climbing more than 40% in the past year. Still, Societe Generale strategists led by Andrew Lapthorne are warning investors not to rely too heavily on the asset, in part because of its “notoriously volatile” prices which can be affected by idiosyncratic factors, such as events. geopolitics or seasonal variations.
“We want to be long on inflation until the point tightening creates the conditions under which supply and demand are rebalanced through an economic slowdown or, even worse, a recession,” Lapthorne wrote in a note. last week. “In this regard, commodity prices, bond yields and equities are all involved in a chicken game with central bank tightening. If central banks are successful, these inflation hedges will become problematic.
To mitigate risk, the team created a multi-asset model to hedge inflation. In commodities, rather than betting on further gains, they developed a trend-following strategy to ride the ebbs and flows in price. Similarly, in the case of bonds, it’s about long-term volatility in yields, rather than betting outright on a continued rise in rates. In equities, the model calls for better returns from the beneficiary of inflation relative to the market.
“We’re just changing the implementation of what traditional inflation hedges are,” Lapthorne said. problem (inflation-linked stocks).”
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