Page 9 - ISQ UK_October 2017

OCTOBER 2018

Is Inflation Coming Back?

Chris Bailey, European Strategist, Raymond James Euro Equities*, reviews tha various global indicators
for inflation and breaks down what this might mean for investors.

"Inflation is taxation without legislation’" Milton Friedman interest rate minus the expected
inflation rate, or - to put it very
Unlike each of the last few years, relatively few of the “One of the most powerful simply - interest rates go up
theories in economics is
world’s major financial markets outside of American the Fisher effect which when inflation goes up. If we
think about much of the
equities or energy sector shares, have made a real return - states that the real interest rationale for the strong
rate equals the nominal
that is beating inflation - during 2018. At one level, this is interest rate minus the performance of financial
not unexpected as the global stock market cycle moves expected inflation rate.” markets, low interest rates have
played a very important role. So
closer to a decade since the early 2009 Global Financial if inflation - or even inflationary

Crisis low point, however it raises some uncomfortable expectations - rises, then interest rates inexorably are likely to
questions for investors: is there a legitimate concern that rise too. And looking at the aforementioned asset class
performance so far during 2018, we have already seen the impact
inflation is coming back? of higher interest rates.

INFLATION & INTEREST RATES FIXED INCOME
Inflation has always mattered for investors. For fixed principal If we start with fixed income, one of the first rules a nascent investor
investments such as bonds, it is a major concern as it can learns is that bond prices are inversely related to interest rates i.e. if
significantly reduce purchasing power over time. By contrast, interest rates go up then bond prices go down. Looking at the poor
equities (via individual companies) and commodities have more performance of fixed income securities globally during 2018 to date,
of an inbuilt ability to raise prices. this appears to confirm rising inflationary fears. However, there are
other elements at work, such as the ongoing quantitative tightening
One of the most powerful theories in economics is the Fisher
effect which states that the real interest rate equals the nominal that the Federal Reserve started just over a year ago.

*An affiliate of Raymond James & Associates, Inc., and Raymond James Financial Services, Inc. 9