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Dealing with inflation on a fixed income
by David Campbell on Dec 27, 2012 at 07:00
Inflation has in many ways been the dog that didn’t bark of the past four years.
As central banks cranked up the printing presses and began to buy government paper by the tonne, many predicted Weimar-esque erosion of monetary value and the imminent introduction of million-dollar bills.
In a US election year, the Republican party has adopted a policy platform commitment to consider a return to the gold standard.
At fiscally conservative rallies, Federal Reserve chairman Ben Bernanke is almost as unpopular as Barack Obama.
And yet US inflation is well inside the inflation-targeting mandate. The UK arguably has a structural problem of sustained inflation, but the absolute rate remains at a level that would have been considered enviable through many periods of British history, well under the rate of the early 1990s, let alone the soaraway 1970s.
That the apocalyptic warnings have not yet come to pass does not make them wrong, however: it merely means they have not yet become right.
In a period in which central bank boards freely admit they have little to no precedent for the ‘unconventional’ policies they are pursuing, no one can say with any certainty what the ultimate impact of quantitative easing (QE) and other stimulus will be.
‘The name of the game is financial repression,’ says Enzo Puntillo, Citywire A-rated manager of the Julius Baer BF Total Return fund. ‘If you go back to World War II, it took 20 years for inflation to emerge; these things can take a very long time.’
So what’s the best way to protect fixed-income portfolios against the long-term, worst-case inflationary scenarios?
Puntillo turns that question round and says the most urgent question is less about how to protect against an exceptional inflationary event, but what to do about the largest and most liquid Western sovereign issues trading well below a break-even reversionary rate of real return. ‘Every year you are holding gilts, bunds or Treasuries you are losing something like 3%,’ he says.
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