Inflation: A Look at the Baseline Portfolio

In December 2008 we assembled a Baseline Portfolio of stocks which we used to track market sentiment and inflation anticipations. The market all too often reflects anticipated moves. In view of the fact that interest rates are artificially low, and that we now believe that inflation is in the wings if not already starting, and that the other leading indicators show a 10% or plus inflation, we felt it worth a return to the Baseline.

Recall that the Baseline was assembled to reflect the following:

1. A 5.5% dividend payout which in December 2008 was a reasonable limited risk return.

2. The elements were broadly reflective of major elements of the economy.

3. None of the elements were considered as trendy.

4. We would take the position and do nothing thereafter while the current Administration was in place.

The first results are above. We see an annualized return of 30%. That is before any dividends. Why that return, are these companies doing so well, and the answer is not really. Perhaps in an environment anticipating zero inflation we would see say 8-10%. The added amount we believe reflects inflation. Current and anticipated. We argue that there is about a 10% contribution from current inflation plus an added 10% from anticipated.

The above is the same data but showing the return slightly differently. Note the flat return on an on going forward basis.

The above shows the daily returns. The problem we see here is the sudden increase, that we believe is anticipated high inflation rates. People are streaming in for protection.

This analysis thus anticipates a 10% inflation on a going forward basis.