Are Stagflation Fears Justified?

April 8, 2022 |
2 minute read
|

Stagflation fears are growing among investors as inflation recently accelerated at the same time 2022 GDP growth projections declined due to weaker consumer sentiment and increased risk aversion. A quick look at Google Trends showed worldwide search activity for “Stagflation” hit a five-year high in the first week of March, following a 30+ percent spike in crude oil prices. Many economists and money managers believe that stagflation is inevitable.

Stagflationary periods, which are defined as periods of low growth, high inflation and high unemployment are particularly detrimental to traditional portfolios of equities and fixed income. High inflation rates typically result in negative bond returns while slower economic growth depresses profits causing corresponding weak equity performance. Additionally, the fixed income portion of portfolios, which historically provided diversification benefits during equity market declines, is expected to struggle in the current environment as the Federal Reserve Bank continues to remove monetary stimulus.

In this chart of the month, we compare the 2022 GDP growth and inflation expectations for the U.S. and the Eurozone with changes in energy prices and unemployment versus six months ago. For the U.S., we also compare the current levels of growth, inflation, and unemployment versus their corresponding averages from 1973 to 1975, the most recent period of stagflation. The Russia-Ukraine crisis has catalyzed commodities prices higher as the conflict negatively impacts two key global suppliers of energy and food. The impact has built on top of supply bottlenecks exposed by the COVID-19 pandemic. As a result, inflation has proven anything but “transitory” with 2022 rates now expected to average 5.8 and 6.0 percent in the U.S. and Europe, up from expectations of 3.0 and 1.9 percent, respectively, just six months ago. Gasoline prices in the U.S. increased by 38 percent versus last year and 41.4 percent in Europe. However, 2022 inflation rates are still lower than the average inflation rate in the U.S. during 1973-1975 of 9.3 percent. At the same time, GDP growth has been revised lower from 3.7 and 4.6 percent for the U.S. and Europe to 3.4 and 2.7 percent, respectively. The economic impact of sanctions against Russia is much larger for Europe stemming from its dependence on Russian energy, significantly lower trade, and other financial ties. Various indicators of consumer sentiment and economic activity point to lower consumption as real incomes have gotten squeezed by higher prices. Business and residential investment could also slow because of increased risk aversion. On the positive side, current GDP growth rates remain higher than the average of 1973-1975 due to negative growth for the U.S. economy in 1974 and 1975. The strong labor conditions remain positive in comparison to the 1970s. The latest unemployment rate of 3.6 percent improved versus six months ago and is much lower than the average of 6.3 percent in 1973-1975. Job openings are close to all-time highs and were almost twice the number of unemployed people in the workforce. In Europe, the unemployment rate also declined from 7.3 to 6.8 percent.

CH1-ASFJ-1

Judging by the numbers, stagflationary pressures are much more pronounced in Europe than in the U.S. Overall, comparisons to the 1970s show the current economic conditions to be much more favorable. Nevertheless, considering the more hawkish stance of global central banks, expected investment returns from traditional equity and fixed income portfolios will likely be challenged. As a result, the role of alternative investments including lower beta equities, private capital and opportunistic and private credit is becoming much more important. At Commonfund, we continue to employ a balanced approach to equities, blending active fundamental and quantitative strategies with passive approaches, providing exposures to opportunistic and private credit to control duration risk and benefit from significant yield advantages, and helping clients to build their allocations to private capital strategies to capture the potential higher returns they offer.

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Ivo C. Nenin

Author

Ivo C. Nenin

Disclaimer

Certain information contained herein has been obtained from or is based on third-party sources and, although believed to be reliable, has not been independently verified. Such information is as of the date indicated, if indicated, may not be complete, is subject to change and has not necessarily been updated. No representation or warranty, express or implied, is or will be given by The Common Fund for Nonprofit Organizations, any of its affiliates or any of its or their affiliates, trustees, directors, officers, employees or advisers (collectively referred to herein as “Commonfund”) or any other person as to the accuracy or completeness of the information in any third-party materials. Accordingly, Commonfund shall not be liable for any direct, indirect or consequential loss or damage suffered by any person as a result of relying on any statement in, or omission from, such third-party materials, and any such liability is expressly disclaimed.

All rights to the trademarks, copyrights, logos and other intellectual property listed herein belong to their respective owners and the use of such logos hereof does not imply an affiliation with, or endorsement by, the owners of such trademarks, copyrights, logos and other intellectual property.

To the extent views presented forecast market activity, they may be based on many factors in addition to those explicitly stated herein. Forecasts of experts inevitably differ. Views attributed to third-parties are presented to demonstrate the existence of points of view, not as a basis for recommendations or as investment advice. Market and investment views of third-parties presented herein do not necessarily reflect the views of Commonfund, any manager retained by Commonfund to manage any investments for Commonfund (each, a “Manager”) or any fund managed by any Commonfund entity (each, a “Fund”). Accordingly, the views presented herein may not be relied upon as an indication of trading intent on behalf of Commonfund, any Manager or any Fund.

Statements concerning Commonfund’s views of possible future outcomes in any investment asset class or market, or of possible future economic developments, are not intended, and should not be construed, as forecasts or predictions of the future investment performance of any Fund. Such statements are also not intended as recommendations by any Commonfund entity or any Commonfund employee to the recipient of the presentation. It is Commonfund’s policy that investment recommendations to its clients must be based on the investment objectives and risk tolerances of each individual client. All market outlook and similar statements are based upon information reasonably available as of the date of this presentation (unless an earlier date is stated with regard to particular information), and reasonably believed to be accurate by Commonfund. Commonfund disclaims any responsibility to provide the recipient of this presentation with updated or corrected information or statements. Past performance is not indicative of future results. For more information please refer to Important Disclosures.

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Disclaimer

Certain information contained herein has been obtained from or is based on third-party sources and, although believed to be reliable, has not been independently verified. Such information is as of the date indicated, if indicated, may not be complete, is subject to change and has not necessarily been updated. No representation or warranty, express or implied, is or will be given by The Common Fund for Nonprofit Organizations, any of its affiliates or any of its or their affiliates, trustees, directors, officers, employees or advisers (collectively referred to herein as “Commonfund”) or any other person as to the accuracy or completeness of the information in any third-party materials. Accordingly, Commonfund shall not be liable for any direct, indirect or consequential loss or damage suffered by any person as a result of relying on any statement in, or omission from, such third-party materials, and any such liability is expressly disclaimed.

All rights to the trademarks, copyrights, logos and other intellectual property listed herein belong to their respective owners and the use of such logos hereof does not imply an affiliation with, or endorsement by, the owners of such trademarks, copyrights, logos and other intellectual property.

To the extent views presented forecast market activity, they may be based on many factors in addition to those explicitly stated herein. Forecasts of experts inevitably differ. Views attributed to third-parties are presented to demonstrate the existence of points of view, not as a basis for recommendations or as investment advice. Market and investment views of third-parties presented herein do not necessarily reflect the views of Commonfund, any manager retained by Commonfund to manage any investments for Commonfund (each, a “Manager”) or any fund managed by any Commonfund entity (each, a “Fund”). Accordingly, the views presented herein may not be relied upon as an indication of trading intent on behalf of Commonfund, any Manager or any Fund.

Statements concerning Commonfund’s views of possible future outcomes in any investment asset class or market, or of possible future economic developments, are not intended, and should not be construed, as forecasts or predictions of the future investment performance of any Fund. Such statements are also not intended as recommendations by any Commonfund entity or any Commonfund employee to the recipient of the presentation. It is Commonfund’s policy that investment recommendations to its clients must be based on the investment objectives and risk tolerances of each individual client. All market outlook and similar statements are based upon information reasonably available as of the date of this presentation (unless an earlier date is stated with regard to particular information), and reasonably believed to be accurate by Commonfund. Commonfund disclaims any responsibility to provide the recipient of this presentation with updated or corrected information or statements. Past performance is not indicative of future results. For more information please refer to Important Disclosures.