Inflation and Stocks

Hundred dollar car note
Two hundred rent
I get a check on Friday
But it's already spent
--Huey Lewis & the News

Some believe that if Big Inflation cometh, stocks will get creamed. Surging prices will drive folks to spend less. Simple ECON 101.

Lower demand for goods and services should be bad for stocks.

A counterargument is that Big Inflation occurs when people get nervous about the value of their dollars sitting idle, so they put them to work today assuming that they can buy more today (i.e., goods, services, AND stocks) than tomorrow. The psychology feeds on itself, creating, in its ugliest form a reinforcing cycle of higher prices and money printing that feeds it.

Although producers are hurt on the input side with higher costs, they can offset them at least partially by raising prices, thereby preserving profit margins to some degree. To the extent that producers own tangible assets, these are also likely to appreciate in value as inflationary pressures rise--giving a boost to book value at least in nominal terms.

In this scenario, stocks are likely to rise. Perhaps not to a degree that completely compensates for purchasing power decline, but at least to serve as a partial hedge that preserves wealth (note Kyle Bass estimates perhaps 85% coverage).

Historical analysis supports this thesis. Weimar Germany, Venezuela, Zimbabwe. Equities tended to rocket in the local currency--even if they didn't keep pace with exchange against more stable currencies (and gold).

One thing seems increasingly clear. In Big Inflation environments, stocks are likely to be a better place to be than cash.

It also seems that, in the current market environment where the CPI is starting to print some big numbers, stocks seem unfazed--like they want to go higher.

position in gold