Inflation and the markets

There hasn’t been too much going on in the markets – the undercurrents feel very swift, however. There is the specter of the looming currency wars, which seems to be the 21st century version of trade protectionism – where all currencies have a race to the bottom.

This is likely to result in the increase in commodity prices, and we are already seeing this in items like sugar, grain, etc. Increased commodity prices is the first step in the erosion of purchasing power of cash.

Whether the statistics are reported by the consumer price index or not is irrelevant – it is clear that the purchasing power of currency is dropping, more than what most people perceive. Not helping matters is very loose monetary policy, where institutions can borrow money for very low rates and then lend it long – this inflates asset prices as capital searches for yield.

The games that sovereign governments are playing are only going to accelerate as debt loads continue to increase – there is no way, for example, that the USA has a reasonable chance of balancing its books, or even paying off the debt without a massive restructuring. The least painful and least politically costly way of doing this is to inflate the currency.

Both retail and institutional investors have to be very cautious that the game with currencies and asset values will result in a lot of pain for all involved, as it will accelerate market volatility. The only apparent escape is to purchase assets that have a claim to cash flows derived from an inescapable consumer need, such as fuel or food. Even in those two cases, you have to purchase a future claim to a cash flow at an acceptable price, which is ever fleeting in today’s marketplace.

It is ironic that the best claims to future cash flows I have found are in non-dividend or very low-dividend bearing securities. Almost anything giving off cash has been bidded up to unacceptable levels.

The only argument against all of this is that you would suspect that government bond yields would be increasing when the markets sense such “stealth” inflation is occurring, but this has not happened yet due to the federal reserve’s quantitative easing program, which has created an asset bubble.