CapitalTime

Articles on investing and capital management, with a quantitative focus.

Yikes, inflation is very high!

2022-02-10

Today, the US inflation rate hit a 40 year high. Canada’s inflation rate is a bit lower, but still at a multi-decade high.

Does this mean it’s time to abandon my bond-heavy investment strategy?

It’s called “Permanent” for a reason

I won’t be modifying my portfolio. In fact, I recently rebalanced and brought my bond allocation back to the 50% target weight.

My portfolio was inspired by the Permanent Portfolio and All Weather Portfolio, although you will notice in that comparison that I’m actually a bit lighter in bonds than these other famous portfolios.

The terms “Permanent” and “All Weather” indicate that these portfolio allocations are suitable for any kind of economic situation. The portfolios are designed to be resilient under different interest rate and inflation regimes. They won’t be perfect in all environments, but they will be pretty good in all environments.

These are also passive portfolios. Investing in a “permanent” strategy means that you must stick with it. It would be a bad idea to start modifying the portfolio every time there’s a new headline about inflation, or the economy.

Nobody knows what will happen next

A high inflation rate, and the threat of rising interest rates, is a legitimate concern for bond investors. But let’s also remember that we don’t know what the market will do next.

There could be a burst of inflation, and then it could subside. It’s possible that we will be back to “normal” inflation rates very soon.

Interest rates could rise, and then we could enter a recession. Now facing a recession, central banks could slash interest rates again. The nearly flat yield curve today already suggests this is a real possibility.

We have absolutely no idea how this will play out. Yes, interest rates could keep rising for the next decade or two. Or they might not.

— Jem Berkes