The Impact of Inflation

August 13, 2021

By Tim Courtney, Chief Investment Officer

According to this week’s Labor Department report, the Consumer Price Index (CPI) jumped 0.5% in July (on top of a 0.9% increase in June) and is up 5.4% over the last year.1 Back-to-back high readings have been followed by a yawn from markets2, with interest rates actually slightly lower than they were two months ago.3

Many strategists and economists, and more importantly the Federal Reserve, believe this surge is caused by transitory factors and will soon fade.4 While that certainly could happen, it is also fair to note that the Fed has widely underestimated 2021 inflation ― even their updated higher estimates undershot actual inflation.5

At least part of this inflation is being driven by near-term shortages in disparate goods, such as chicken, chlorine, steel, computer chips, cars and even McDonald’s paper bags. However, even if inflation does recede, many economists estimate it will be higher than the 1.7% level we’ve become accustomed to over the last decade.6 This could be exacerbated by a housing crunch, labor shortages, and lots of spending and stimulus flowing through the economy.
This inflation risk is being exacerbated by historically low interest rates. Low rates are great for borrowers looking to refinance debt, but coupled with higher inflation, they are creating a difficult environment with no margin for safety for fixed income investors. Even assuming no defaults, a wide swath of debt investments have negative real yields.

Low interest rates could be telling us to prepare for future growth and inflation so anemic that it rivals the Great Depression. The only 10-year periods with CPI inflation lower than the recent 10-year Treasury yield of 1.25% all occurred during the Depression.7

Another possibility (which we think is more likely) is that current interest rates are not properly accounting for inflation.8 It is difficult to “fight the Fed” while they continue to buy large amounts of bonds each month and help to keep rates lower than they otherwise would be. The basic investor goal of earning a real return (which is becoming increasingly difficult) differs from the Federal Reserve’s set of goals.

We also should note that low rates plus higher inflation is one way to deal with a large debt burden. Receipts to the Treasury reached a record in the first quarter of 2021 and should be helped higher by inflation in future quarters9 while spending on interest is relatively quite low.

Thankfully, stocks and real assets have historically had better success in dealing with elevated levels of inflation.10 Should this persist, we believe a well-diversified portfolio including weights to materials producers and other sectors that could benefit from inflation may be appropriate. If you have any questions about assets or inflation’s effect on your portfolio, please contact your Exencial advisor.


1. Bureau of Labor Statistics (8/11/21) – CPI for all items rises 0.5% in July
2. Yahoo! Finance (7/13/21 – 8/13/21) – S&P 500
3. MarketWatch (6/13/21 – 8/13/21) – U.S. 10 Year Treasury Note
4. The Associated (6/22/21) – Press Fed’s Powell says high inflation temporary, will ‘wane’
5. The Wall Street Journal (7/28/21) – The Federal Reserve’s big inflation miss
6. The Wall Street Journal (7/11/21) – Higher inflation is here to stay for years, economists forecast
7. CPI, DFA Returns 2.0 (12/31/20)
8. MarketWatch (7/18/21) – Does the bond market have it wrong about inflation?
9. St. Louis Fed FRED Data (3/31/21) – Federal Government current tax receipts
10. Investopedia (5/26/21) – 9 assets for protection against inflation

The S&P 500® is widely regarded as the best single gauge of large-cap U.S. equities. There is over USD 9.9 trillion indexed or benchmarked to the index, with indexed assets comprising approximately USD 3.4 trillion of this total. The index includes 500 leading companies and covers approximately 80% of available market capitalization.

The 10-year Treasury note is a debt obligation issued by the United States government with a
maturity of 10 years upon initial issuance. A 10-year Treasury note pays interest at a fixed rate
once every six months and pays the face value to the holder at maturity. The U.S. government
partially funds itself by issuing 10-year Treasury notes.

The Consumer Price Index (CPI) is a measure that examines the weighted average of prices of a basket of consumer goods and services, such as transportation, food, and medical care. It is calculated by taking price changes for each item in the predetermined basket of goods and averaging them. Changes in the CPI are used to assess price changes associated with the cost of living. The CPI is one of the most frequently used statistics for identifying periods of inflation or deflation.

PAST PERFORMANCE IS NOT AN INDICATION OF FUTURE RETURNS. Information and opinions provided herein reflect the views of the author as of the publication date of this article. Such views and opinions are subject to change at any point and without notice. Some of the information provided herein was obtained from third-party sources believed to be reliable but such information is not guaranteed to be accurate. In addition, the links provided within are for convenience only and the provision of the links does not imply any sponsorship, endorsement, or approval of any of the content. We do not guarantee the content or its accuracy and completeness. The content is being provided for informational purposes only, and nothing within is, or is intended to constitute, investment, tax, or legal advice or a recommendation to buy or sell any types of securities or investments. The author has not taken into account the investment objectives, financial situation, or particular needs of any individual investor. Any forward-looking statements or forecasts are based on assumptions only, and actual results are expected to vary from any such statements or forecasts. No reliance should be placed on any such statements or forecasts when making any investment decision. Any assumptions and projections displayed are estimates, hypothetical in nature, and meant to serve solely as a guideline. No investment decision should be made based solely on any information provided herein and the author is not responsible for the consequences of any decisions or actions taken as a result of information provided in this book. There is a risk of loss from an investment in securities, including the risk of total loss of principal, which an investor will need to be prepared to bear. Different types of investments involve varying degrees of risk, and there can be no assurance that any specific investment will be profitable or suitable for a particular investor’s financial situation or risk tolerance. Exencial Wealth Advisors, LLC (“EWA”) is an investment adviser registered with the Securities & Exchange Commission (SEC). However, such registration does not imply a certain level of skill or training and no inference to the contrary should be made. EWA may only transact business in those states in which it is registered, notice filed, or qualifies for an exemption or exclusion from registration or notice filing requirements. Complete information about our services and fees is contained in our Form ADV Part 2A (Disclosure Brochure), a copy of which can be obtained at www.adviserinfo.sec.gov or by calling us at 888-478-1971

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