Eurozone inflation rose in June to its highest since the bloc’s 1999 formation.
Prices were 4 per cent higher in 2018 than a year earlier in 2017 twice as high as the ECB’s inflation target1.
ECB’s is expected move to raise the interest rates to 4.25 % to fight inflation.
Main reason for high inflation in Europe is that ECB is still sticking to its pledge to keep injecting funds despite opposition that inflation may spiral out of control.
How will inflation effect investment/returns?
If you invest only in stocks, worrying about inflation it will keep you up at night since historically stocks have been quite weak hedge against inflation.
The problem is Europe is currently suffering from stagflation, a combination of a bad economy with an increase in prices is extremely bad for stocks (Lower returns and higher risk for investors).
Wealth preservation diminishes as investors with a lot of cash will see the value of that cash decrease with increases in inflation.
European Investors and consumers alike suffer from a phenomenon called “money illusion” when they face higher inflation. For instance:
- This occurs when stock market investors are fooled by company’s returns that tend to be overstated. In times of high inflation; i.e. a company may look like it’s prospering, when really inflation is the reason behind the apparent growth.
- Consumers who feel good when they receive a higher wages but in reality have less purchasing power (they in fact pay more and get less due to inflation).
Financial assets (money, stocks, derivatives and options) investments, all typically lose value as inflation increases.
Solution for investor/consumer during Inflation
Typically hard assets are an excellent hedge against inflation, meaning their value rises as inflation rises.
Hard assets are a unique investment class when compared to financial assets in that not only does it typically preserve its value during periods of inflation, but certain hard asset investments can also be an income producing asset, paying dividends back to investors.
Diversifying your portfolio with hard assets during inflation is proven to help to lower your risk and increase your overall returns (capital preservation and sustained returns).
1 Eurostat, the European Union’s statistical office
Review of 5 Major Asset Classes in Europe (as of December 2017)
- Europe’s Volatile Stock Market Performance
Stock Market Volatility
- Hundreds of billions wiped off Europe’s capital markets, as fear of inflation and emerging markets such as Brazil Russia stock market crashed back in 2016 and early 2017 have sent shares tumbling throughout Europe.
- European investors still remain jittery. Even for those by now are already accustomed to wild fluctuations in stock markets still have no idea on how equity markets operate.
- Stocks have the highest risk during inflationary period
- European Government Bond Performance
Falling Interest Rates of Euro Government Bonds
- Since the financial crisis of 2008, the European Central Bank (ECB) have created money out of issuing trillions of euro’s in bonds. This move has pushed down interest rates on euro government bonds.
- In 2017 alone, it has been estimated that in the last two weeks alone some $1 trillion has been wiped off European bond markets2;
- Government bonds have low returns during inflationary period.
- Low Saving Deposits Returns in the EU
Historical Low Interest Rate on Personal Savings
Historical low long-term interest rates and the ECB delaying rate hikes has resulted in very low returns on most European bank’s saving deposits.
- Hard Assets Market Remain Resilient
Hard Asset Demand Remains Resilient
- The chart above clearly shows that hard assets still provides the highest returns when compared with other asset classes;
- Problem is that uncontrolled “printing money” by the ECB is actually a fabrication of something from “nothing and uncertainty”.
- Global investors still believe that hard assets are “safe haven” for investments as it provides low level of risk during inflationary periods;
- Investors goal would be capital preservation during inflation (a term for never losing your principal), thus retaining their capital invested and purchasing power;
- Hard assets have little or no correlation with financial assets, investing in hard assets helped spread and reduced risk to portfolios.
- Hard assets have proven to have fairly low risk and high returns.