The Letter - Bordier & Cie

How to hedge
against future infl ation
1. Introduction: anticipation is vital
2. Gold
3. Commodities
4. Property
5. Equities
6. Focus on infl ation and growth
7. Infl ation-linked government bonds
8. Conclusion: it will soon be time to buy infl ation-linked bonds
1. Introduction : anticipation is vital
United States, euro zone, Switzerland, United Kingdom, Japan: deep
recession is everywhere. Back in July 2008 observers had still been
forecasting the risk of stagfl ation with a barrel of crude priced at
USD 150, but in the meantime many countries have either gone into
defl ation or are about to do so. Then again the property crisis in
the United States has caused a serious deterioration of bank balance
sheets on both sides of the Atlantic.
To fi ght the fi nancial crisis and recession, the central banks have
cut their base rates to historically low levels, close to zero. As this
did not seem enough to drag us out of the crisis, the central banks
have even begun to practice quantitative easing policies, by which
is meant that they are buying up massive quantities of government
bonds, commercial paper or property-backed securities (commonly
known as toxic assets). All of these purchases are helping to swell
money supply hugely and in fact represent a return to the old habit
of printing new bank notes. In the course of history that practice
has always preceded bouts of infl ation; infl ation therefore awaits us
4
round the corner, sooner or later. To hedge against infl ation, economic
literature identifi es gold, commodities, property and equities;
more recently, infl ation-linked issues have made their appearance on
the bond market.
Our approach in this article will be to study the performance of
these different vehicles in relation to the consumer price index in the
United States (the familiar CPI) over a period of forty years in principle.
We will endeavour to refi ne our analysis by looking at six periods
typifi ed by different levels of infl ation, with an imminent or existing
recession or on the contrary a period of vigorous growth. We have
focussed on the United States because that country has the benefi t of
long statistical series.
15
10
5
0
8
6
4
2
0
INFLATION IN THE UNITED STATES YEAR ON YEAR VARIATION
FROM 01/01/69 TO 31/12/78 15 15 FROM 01/01/79 TO 31/12/88
69 70 71 72 73 74 75 76 77 78
FROM 01/01/89 TO 31/12/98
89 90 91 92 93 94 95 96 97 98
8
6
4
2
0
10
5
0
5
10
6
4
2
0
-2
5
0
79 80 81 82 83 84 85 86 87 88
SINCE 01/01/99
99 00 01 02 03 04 05 06 07 08 09
15
10
5
0
6
4
2
0
-2
Source: Thomson Datastream