Inflation is sky-rocketing. How I am positioning my portfolio to weather the impending storm

The inflation genie is definitely out of the bottle. In the UK, figures from the ONS showed that CPI hit 4.2% in October up from 3.1% the month before. In the Euro Zone, the monthly increase was 0.5% to stand at 4.1%. And in the US, the Fed’s preferred measure of inflation, the Personal Consumption Expenditures Price Index (PCE), rose 0.4% to 4.1% in October. With figures like this, it is little wonder that the Fed chair Jerome Powell has finally ditched the notion that had been bandied around for some time that inflation was a mere “transitory” phenomenon.

The causes of inflation

The reason why inflation is increasing can be boiled down to a number of themes:

• Record money printing by central banks to prop up their economies following the Covid-19 crash. This has led to the suppression of interest rates;
• A sudden spike on the demand side, as individuals have hoarded record amounts of cash (and paid down debt) after prolonged lockdowns;
• Cost-push factors. As economies have reopened, supply chains has been ill-equipped to deal with the sudden spike in demand. This has led to exponential increases in raw materials, energy, and shipping costs. This has been compounded by increasing labour costs as businesses have struggled to entice people back to do jobs at pre-pandemic pay rates.

Which sectors are likely to be the winners in a prolonged inflationary environment?

Sentiment remains bullish for growth stocks and long duration equities, most notably the FAANGs but also software companies in general. It isn’t hard to see why. Covid-19 forced businesses to accelerate their IT spending to move to the cloud, and to improve security to support remote working. A trend that many believe, including myself, is here to stay. But when you project these growth trends into the extreme future (the very essence of a long duration equity) then support for the record valuations placed on such companies becomes a lot more tenuous.

If we are indeed entering a stagflationary environment (one characterised by slow growth coupled with rising inflation) then I see the potential for significant downside amongst such stocks. We may already be seeing the beginning of the unravelling of the largest bubble in history. DocuSign crashed 42% on Friday after the company’s reported guidance fell short of expectations. Amazon recently reported a slump in profits, citing some of the very reasons I called out above. The Darktrace share price has fallen 50% recently, but still commands a premium of 10x revenue, despite still being a loss-making business.

History has shown that in periods of rising inflation certain assets tend to do well. During the inflationary recession of 1973-74, the Nifty 50 (the growth stocks of the day) declined 50%. Similarly, during the tech bust, the Nasdaq composite fell 78%. Both eras marked the beginning of a secular bull market for precious metals.

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Andrew Mackie has no position in any of the shares mentioned. John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. The Motley Fool UK has recommended Amazon and DocuSign. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.