By David Schassler
Head of Quantitative Investment Solutions
Portfolio Manager David Schassler joined a panel of fellow experts to discuss the current outlook for inflation and how real assets can help offset inflationary pressures.
Real Assets in Broader Portfolios
Real assets are physical or intangible items that have intrinsic value and are not subject to inflationary pressures. Examples of real assets include gold, silver, land, and buildings. At VanEck, we categorize real assets into the following three buckets:
- Gold bullion and gold equities
- Commodities and natural resource equities
- REITS, Infrastructure, and MLPs
Historically, real assets have been an effective way to protect broader portfolios from inflation. Going back approximately 50 years, the average annualized real return (adjusting for inflation) of the 60/40 portfolio has been 6%. However, the average annualized real return for the 60/40 portfolio during the high inflation periods of the 1970s and mid-2000s was 0.55%. For that same period, the average annualized return for the inflation protection portfolio (set at 50% commodities and 50% gold: based on data availability and for the sake of simplicity) was 15.97%.
Deflationary Pockets are Normal During Inflationary Regimes
High inflation doesn’t come in a straight line. Inflation pops up, and then it comes back down, then it pops up, then it comes back down. We saw this pattern in the 1940s and then again in the 1970s. In both of these periods, high inflation, on average, stayed materially above 2% for an extended period of time, and we believe the current market will endure a similar fate. When contextualizing inflation, it’s helpful to focus on the entrenched financial conditions rather than monthly CPI prints:
- Inflation remains very high but is decelerating.
- Government debt is very high and continues to grow.
- Historically, inflationary events have lasted a long time, with several peaks and troughs within.
- The cure for inflation (tighter policy) is “kryptonite” to an overleveraged economy.
- The Federal Reserve (Fed) fights recessions with a looser monetary policy, which is inflationary.
Consequently, this leaves the Fed in the most unfortunate economic situation with no great options. We have long said that the idea of a soft landing is a fairytale. Fed Chairman Jerome Powell now seemingly agrees and recently acknowledged that the window for a soft landing has “narrowed.” The most reasonable outcome, in our view, is that the Fed will become less aggressive in its fight against inflation. More specifically, higher interest rates may eventually have a devastating impact on economic activity and the financial markets. We expect the Fed to be forced to pivot with inflation significantly higher than its 2% target. Ultimately, this inflation cycle will probably follow the predictable path of previous inflation cycles: It will last a long time!
As this inflation environment persists, real assets will continue to provide diversification benefits in broader portfolios.
Additional highlights from the Masterclass include:
- 4:40: Overview of the types of real assets
- 8:20: Inflation outlook
- 19:00: What we can learn from previous inflation cycles
- 25:48: The performance of different real assets across inflation regimes
The full Masterclass can be accessed here.
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Originally published by VanEck on 1 December 2022.
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