What are investors supposed to trust now?

I am often not glad that I am no longer the young man in the room. This month I am. If you’ve only been hanging around the markets for, say, 15 years, you’re seeing the collapse of everything you’ve been told to be true and you’ve also observed to be true about the markets.

It turns out that quality growth stocks don’t always outperform; that the Federal Reserve will not always step in to protect your wealth; that ESG investing is not an automatic path to wealth where everyone wins; and that the prices of the growth stocks in his portfolio have long been more a function of loose monetary policy than the invaluable nature of innovative thinking.

Finally, it turns out that the idea of ​​sticking with a long-term portfolio made up of 60 percent stocks and 40 percent bonds doesn’t mean that everything will always be fine. This year, so far, he would have lost about as much money in the iShares 20+ Treasury ETF as he had in the S&P 500: about 18 percent in both. Bonds with shorter dates would have made you lose less, but look through a list of UK bond funds and you’ll be hard-pressed to find one with less than a 7 per cent decline.

Global funds don’t look too good either. The Vanguard Global Corporate Bond Index is down more than 12% year-to-date, making its performance not that different from the MSCI World Index, down 13%. So much for the genius of asset class diversification.

The problem here is obvious. The protection you’re supposed to get from bonds involves their yields falling (and thus prices rising) in bad times. That makes sense. Generally, when things look rough in equity markets, there is a reason (or central banks at least manage to find one) to cut interest rates to fix things.

The only time this can’t happen is when inflation is already obviously out of control, and no amount of worrying about market crashes and looming recessions can allow central banks to start looking like they’re not fully focused. trying (unsuccessful though it may be) to bring her back under control.

So here we are, in what Andrew Lapthorne, head of quantitative equity research at Société Générale, calls the “unusual” position of seeing the stock and bond markets implode at the same time: Between them they’ve lost about $23. trillions in value since its last peak. year.

That’s a lot of losses. So what’s next? The answer has to do with inflation. Some think it’s not far from peaking in the UK and US. They may be right. In the UK, for example, there were some exceptional numbers: the 54% rise in the energy price cap, hotel VAT going back to 20%, and a sharp rise in fuel prices.

But even if the CPI numbers jump to 10 percent (from 9 percent last month) and then start to fall, it is highly unlikely that they will return to the central bank’s target levels (mainly 2 percent for reasons to be seen). lose in the sand). of time) or, for that matter, anywhere near them. After 30 years of the UK’s annual inflation rate mostly hovering around 2 percent, this is something that very few people still recognize as a possibility, let alone a probability. But it is, and the reasons for it aren’t exactly a secret.

Globalization is deflationary: the lowest-cost producers supply everyone. Deglobalization is not, and with China and Russia decoupling from the global economy, this is what we have. The energy transition is also costly, both in its material and metal requirements and in the way that enthusiasm for it has dampened enthusiasm for supporting fossil fuels. The 11 largest oil companies in the West invested a mere $100 billion last year, notes Argonaut’s Barry Norris (he’s made a great little YouTube video about all of this).

That may seem like a lot of money, but it’s not. Less than a decade ago they were investing $250 billion a year. That lack of investment brings with it supply constraints that are not going away quickly. Last year, Western oil companies found new oil and gas reserves equal to just 4 percent of global demand, a new low. And of course it means higher prices.

There is an argument that these inflationary spurts, and the huge economic tipping points that cause them, are nothing in the face of another giant global dynamic: our aging population. As people age, we are told, they go from accumulators to replacements, and consequently their consumption falls. This is so deeply deflationary that inflation cannot possibly take hold in Western economies (see Japan).

I have never bought this. It doesn’t fit the behavior of retirees I see around me, and it turns out it doesn’t fit the behavior of the average retiree either. A new report from the Institute for Fiscal Studies suggests that, on average, total spending by retiree households is not falling. It stays pretty constant, actually increasing slightly at all ages up to 80 and only going down slightly after that. It’s also worth noting that our aging population doesn’t exactly help with our labor shortage.

Is the deflationary push of the aging population that many assume inevitable? It may not exist. And if it doesn’t, there really is nothing left to prevent inflation from staying much higher than we’re all used to for many years to come.

All this is leaving investors a little paralyzed. Bonds cannot be trusted (this will be the case as long as rates go up, not down). You can’t trust cash (anything on deposit is losing you 7 percent or more in real terms right now). And you can’t trust the kind of stocks you’ve relied on for the past decade: Stocks Yardeni Research refers to as MegaCap-8 (Amazon, Alphabet, Apple, Meta, Microsoft, Netflix, Nvidia, and Tesla) are down. an average of 28 percent since January.

The only good news is that while this all feels new (and is new to most market participants), it’s actually not new. Much of it reflects conditions in the 1970s, another time when everything seemed to change at once. Not everything is completely equal, but it is enough to make it worthwhile to review the few things that later made people richer, not poorer.

With that in mind, keep the gold. Hold onto things that are seeing their prices rise due to supply shortages, such as fossil fuels and raw materials. And absolutely crucial, expect volatility and regular recession fears. There was a lot of that in the 1970s, and there will be a lot of that in the rest of the 2020s.

Merryn Somerset Webb is the editor-in-chief of MoneyWeek. The opinions expressed are personal. She has holdings in gold and shares in Shell.

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