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MAKING CENTS OUT OF THE NEWS
Blog #22
(December 11th, 2008)
SCARY MAY BE THE NEW SAFE!
By Tom McAllister, CFP™
Pump air into tires or money into the credit system, and what do you get? Inflation! It’s inevitable -the recent influx of U.S. government funds into the nation’s credit system will signal an onset of inflationary pressure on the U.S. economy. With the tempering factors of lower costs for energy and housing, inflation of 5% – 6% seems likely, a high level compared to recent years.
Looking back over the first eight years of the 21st century, our dollar has lost 27% of its value. Put another way, the U.S. dollar is worth 73 cents compared to a dollar in the year 2000. Interestingly, in the last four months, the dollar has rallied in relation to other currencies, rising from $0.63 to $0.80 versus the Euro, and from $0.49 to $0.66 against the British pound. The Canadian dollar, meanwhile, is down from $1.02 to $.081 against ours. All of these comparisons suggest a bout of worldwide inflation.
So, where should individual investors put money to combat this inflation? Let’s examine the options:
Commodities: The financial media’s been full of recommendations to buy gold, oil futures, or platinum and diamonds. All of these have declined in recent months. Historically, 94% of public participants in commodities markets have lost money. During the period between 1954 and 2004, a “basket” of commodities had an annual return of 3 ½%. Professional commodities portfolio managers “managed” to return 0.9% a year between 1994 and 2007. The commodities market was certainly not a good place to hide from the 4.2% average annual inflation rate over that period of time.
U.S. Treasury bonds: Currently yielding just under 4%, ten year U.S. government bond yields are federally taxable, meaning that investors in a 25% tax bracket are after-inflation losers! CDs have had approximately the same results.
U.S. government Treasury Inflation Protected Securities: TIPS adjust their principal balance every six months to reflect inflation. Currently yielding 2.8% plus inflation, these look like a good shelter – until we factor in the current income tax on those semi-annual adjustments, which takes the annual return down to 0.2% after tax.
Real estate: In theory, real estate values rise with inflation. But supply and demand play a big part in values, too, and when the market “tanks”, as has happened in residential real estate the last three years, values plummet even more. Then factor in the credit squeeze, poor to no liquidity, and you can see the real estate investment area merits at least a yellow caution flag.
Stocks: For the 82 years ending in 2007, U.S. stocks have delivered an annual return of 6.3% MORE than inflation! True, in periods of high inflation, stocks can trail the inflation rate. The fact is, though, for EVERY ten year period in all those eighty two years, stocks finished in the black.
The only rational approach to finding shelter from the inflation “storm”, then, is the scariest – common stocks. Stocks are selling at their cheapest levels, given their fundamentals, than at any time during all my forty-six years in the investment world. Cautious investors may, at first, find my message difficult to digest, but all the evidence points to only one conclusion:
”Scary” may be the new “safe” way to invest.
With all the rapid changes in our economy and in the investment markets, there are many investors who would benefit from more consistent guidance. We are currently accepting new financial planning and investment clients, and would appreciate your referrals.
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