Investing When Inflation Is Over 4%

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Over the years the US stock market has been one of the
best places to invest, providing that you are in for the
long term. Interest bearing investments like AAA
corporate bonds or US Treasuries provide a reliable
return but when inflation is high these vehicles often
provide negative real interest rates.

Thus the common belief is that stocks are a better choice
for combating inflation. However, when inflation is
below 4% stocks work as a hedge and above 4%, they
tend not to. Thus we have to think about investing
when inflation is over 4% in a different light than
when inflation is more moderate.

Are Stocks an Inflation Hedge or Not?

Bloomberg published an article noting that, according to
Credit Suisse, when inflation is entrenched at about
8% that over the decades it has been extremely
difficult to bring down and stock investment returns
suffer. In years when inflation ranks in the top 5% of
all years, stocks have fallen by an average of 9.6% in
terms of real value. In the next top 15% of inflation
years stocks have averaged a 0.7% return in real value
adjusted for inflation.

How Do Interest Rates Affect Stock Investing

In general, higher interest rates encourage investors to
put part of their portfolio in bonds, CDs, or Treasuries.
Investors typically do this because these interest
bearing investments are more secure in the short term
as they are immune from stock market volatility.
Another good reason to pivot to these vehicles is that
when interest rates are going up stocks tend to
perform poorly and it is when rates are going down
that they do better.

The US stock market averages a 2.6% return on
investment during periods of rising rates and a 9.6%
return on investment as rates are going down. What
investors need to be aware of is that these are average
returns. There is a split between good years and bad
years in these numbers as stock market returns can
rise with interest rate increases and fall when rates
are lowered. This means that the investor needs to
consider specific cases and the intrinsic value of each
stock in their portfolio.

Which Group of Stocks Does Best As Interest Rates Rise?

Over the years in rising interest rate environments the
stocks that do the best are the cheapest. In this case we
are not talking about penny stocks but entire markets
or market niches that are undervalued in comparison
to other markets or niches within a given market.

The folks in the Bloomberg article note that the UK stock
market is relatively undervalued and, as a rule, offers
better dividend yields than the US market. So, if you
follow their advice, you will look at the UK market or
undervalued segments of the US market and
dividend stocks within those markets.

Are You Investing for the Short Term or the Long Term?

A basic question that every investor needs to constantly
ask themself is if they are looking for short term gains
or best performance over the long haul. This brings us
back to the fact that the US stock market has
outperformed other investments for investors who
choose good stocks with good intrinsic value and hold
them for years and years. This does not mean that
timing your investments is not important.

We just saw Warren Buffett, whose preferred time to
hold a stock is forever, sell the bulk of his shares in
Taiwan Semiconductor. We have noted that bear
markets can be the key to future wealth if the
investor buys the right stocks when they are
discounted. Thus, an investor needs to avoid gutting
his portfolio of stocks that are promising for the long
term simply because the economy, and the market are
going through a period of inflation and rising interest
rates.

For more insights and useful information about
investments and investing, visit
www.ProfitableInvestingTips.com.

Investing When Inflation Is Over 4%

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