Monthly Market Insights: Is Inflation Here to Stay?

By Ankur Patel

Markets tend to have short memories, and October was a great reminder of that. Following a 4.8% decline for the S&P 500 in September, we saw a complete reversal in October — it was up 6.9%, which was another all-time high and the largest gain since last November. The other major equity indices, the DJIA and NASDAQ, also posted all-time highs and were up 5.8% and 7.3%, respectively.

But if you were watching the news, you might have believed otherwise. There was no shortage of troubling events to report on in October. Congress waited until the last minute to raise the debt ceiling and postponed further decisions until December. Former Facebook employees (aka whistleblowers) leaked internal documents, putting pressure on the company from both consumers and regulators. And soaring energy prices reminded us how turbulent reopening the economy continues to be. Yet markets kept marching higher, mostly thanks to better-than-expected earnings.

The more challenging question here, however, is whether that will continue. We don’t know. Especially because supply chain bottlenecks disrupted whatever forecasts might have been made on earnings calls this quarter. It’s been the theme. Originally, investors were only watching companies that were directly impacted by the bottlenecks, but as these issues linger, we’re beginning to see the ripple effects. For example, railway operator Union Pacific lowered forecasts for future volumes due to semiconductor shortages, which are impacting production of cars.

Supply chain woes and inflation

Supply chain issues are also one of the main reasons inflation has been less “transitory” (aka temporary) than expected. Even the Fed has conceded that we could experience supply chain issues into next year, causing inflation to be higher than expected for longer.

But higher inflation doesn't necessarily have to be a bad thing. For one, wages are also rising, which affords consumers more spending power while prices are climbing. If you make more, you can spend more. It’s as simple as that.

For companies, though, it’s a bit more complex. Inflation makes it harder to navigate a world where record earnings (and margins) are becoming expected. With higher input costs (like commodity prices and wages), companies face tighter margins in the future unless they can pass along these higher costs to consumers. The good news is that some, like Chipotle and McDonalds, have been able to do this successfully without facing backlash.

Some companies are even viewing record demand as an opportunity to increase capital spending and focus on expansion for the future. We’ve seen plenty of examples of this lately, from Hertz putting in a purchase order of 100,000 Tesla cars to United Airlines increasing the number of international flights they offer. And while shareholders may penalize companies in the short term, like they did after Intel announced investing big in (more) chip manufacturing, in the long run, this type of spending adds capacity for the economy as a whole to grow in the future.

What does this mean for my investments?

First, if your investment horizon is short — say, five years — then inflation may be a bigger concern for you. But if your horizon is, say, 30+ years, maybe not. Inflation may not be “transitory,” but even if “a few quarters” turns into a year (or two), it’s likely that inflation will eventually settle into a more permanent rate.

Next, at a high level, inflation is generally bad for cash, good for stocks, bad for bonds, and good for certain types of alternative investments:

  • If you’re holding excess cash, you may want to consider investing it. Low savings rates plus higher inflation is a terrible combo for cash. It not only erodes purchasing power, but as financial assets continue to appreciate, it may also result in missed opportunities.

  • Stocks typically fair well, as inflation usually occurs at times of economic prosperity.

  • Bonds typically don’t fare well, as interest rates usually rise during inflationary periods. (As interest rates rise, bond prices fall, generally speaking.) But we haven’t seen the same correlation this year, so don’t discount bonds just yet.

  • And last but certainly not least: alternatives (depending on the type, of course). Real estate has always been considered a good inflation hedge. Commodities also tend to do well. And while oil prices are on the rise, infrastructure assets — especially those helping build and maintain sustainable energy — should also hold up well. Even private credit (ie, revenue-based loan strategies) can also do well, as stronger growth in the economy means higher top lines and fewer defaults.

All that said, portfolio diversification remains key — always, but particularly now because we don’t know which path inflation will take from here. While some investors believe supply chain issues persist and will drive higher inflation, others are betting productivity gains (via tech advances) will outpace inflation and keep it in check.

Regardless of the outcome, positioning your investment portfolio for either scenario means having a combination of stocks, bonds, and alternatives — including assets that have the potential to keep up with or outpace inflation.


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Ankur Patel

Ankur is a CFA® charterholder with more than 15 years of experience working in investment and wealth management. As Vice President of Ellevest Private Wealth Investments, Ankur partners with our financial advisors to build and implement portfolios for our private wealth clients.