High inflation to stick around, warn investment heavyweights

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High inflation is here to stay – for longer than markets are pricing in – according to the bosses of some of the country’s biggest funds, as stagflation, war and recession remain within the realm of possibility.

Future Fund chief executive Raphael Arndt told The Australian Financial Review’s Alpha Live summit on Thursday that investors were failing to price in the stubbornness of inflation.

Future Fund chief executive Raphael Arndt said inflation was likely to stay sticky.Credit: Peter Rae

“Inflation is staying high and staying sticky,” Arndt said, noting that, perversely, markets were “pretty much pricing inflation going back into the band”.

On Wednesday, the Australian Bureau of Statistics released data showing that inflation eased in the March quarter but remained high, with the headline annual figure clocking in at 7 per cent in March, compared with 7.8 per cent the previous quarter. The Reserve Bank aims to keep inflation between 2 per cent and 3 per cent.

Arndt said stagflation – where economic growth is low, but inflation and unemployment are high – was a worry, and that a war between China and the US was “quite possible”.

As a result, Arndt said commodity exposure including gold and other pass-through assets – which allow investors to receive a portion of cash flows generated by a pool of underlying assets – had become more attractive. By contrast, he said investors might want to dial down exposure to the sharemarket.

‘Services, which of course are [the] more sticky part of inflation, are continuing to stay way too high.’

“The equity market doesn’t seem too concerned about anything, which is a concern,” Arndt said. “In that world, you need to be cautious about equity valuations, so you might want to dial down the exposure a bit.”

AustralianSuper head of fixed income Katie Dean said that while price increases had eased for goods, the same could not be said for services.

“We’re seeing pretty significant disinflation in goods prices,” Dean said. “But services, which of course are [the] more sticky part of inflation, are continuing to stay way too high.”

Dean said rent increases were a substantial demand-side factor driving inflation but wage growth was also proving sticky.

Consequently, she said it was “still a little bit premature to completely call the peak” on the Reserve Bank’s rate rises.

At its last meeting in April, the Reserve Bank put a pause on increasing the cash rate after 10 consecutive rises over the past 12 months.

Inflation in the US is also likely to remain high, according to First Eagle Investments’ global value team co-head Matthew McLennan, who said its root causes remained unresolved.

“While the markets have been recently bullish and hoping this crisis is over, and equity markets are rallying on the back of what is perceived to be a cyclical improvement in core inflation, we haven’t solved the root causes,” McLennan said.

He pointed to the 6 per cent budget deficit in US government spending and said there was “a similar policy cocktail of too-easy money and fiscal laxity” in the 1970s, which resulted in inflation getting out-of-hand.

Like Arndt, McLennan said gold was an attractive hedge in an inflationary environment where equities floundered. “Over the last century, the worst decades for equities were pretty good decades for gold,” he said.

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