Inflation. Everybody agrees it's coming back. Make that roaring back. No one says otherwise. After all, the government is spending money like it's someone else's (it is...ours). With extreme stimulus, surely inflation will have to be a problem, commodity prices have to rise, real estate has to go up, too much money will chase too few goods and services. That's the classic definition of inflation.
It's obvious what investors have to do: they have to buy inflation proof investments, ones like gold, commodities and real estate. Maybe it's too obvious. Maybe if everyone else is buying those things, there's reason to pause and reconsider.
The markets have a way of making fools of most investors, all of them at one time or another. Most often it happens when there's an "obvious" investment, a no-brainer that everyone can see is a sure winner. Many times those sure things have a way of turning into big losers. If it were easy to make money in the markets, we'd all be rich. I've never met anyone who thought making money investing was easy unless it was a new investor who just got lucky. Over the long term, getting good returns on investments is difficult at best and often treacherous.
That's because the obvious investment is only obvious in hindsight, much after the fact. In the recent past, the most "obvious" no brainer was oil. The price of a barrel went up every day. China demanded more and more. So did India. It was obvious that there was no limit to the price for black gold. When it was trading at $147 a barrel, it was obvious that it was going to $200 and beyond. It was only a matter of time.
Then reality showed up, and things turned from obvious to ugly. It turns out China's economy could cool off. It was part of global trade after all. So was India's economy. The price of oil was subject to supply and demand. No matter how much manipulation was involved in oil's price on the way up, the traders couldn't keep the price higher if demand was falling. Investors who bought in at the top are wondering what they were thinking at the time. They were thinking it was an obvious investment.
The same thing can happen to specific stocks. For example, one can break into the headlines with a cure for cancer . Traders jump on. Then investors begin to do more research and start to buy. Finally, brokerage houses write up the company, giving it a "Buy" recommendation. There's a unanimous opinion that the stock is a sure winner, an obvious purchase since it's going to make a lot of money. Sometimes that's true. But many times, after all the brokerage houses have gone bullish on a stock, it starts to fade, every day losing a little more ground.
Why? Because all the traders who bought it before news broke or brokers recommended it, are selling for a profit. They've gotten a short term gain and moved on. Then, when the stock is weaker, investors begin to second guess their initial purchase. If the stock was so good, why is it going down? they wonder. Maybe I better sell some or all of it before it gets back to where it was before the announcement was made. So they start selling part or all of their positions. That induces more selling from more insecure owners. The obvious winner becomes a near-term loser, and most investors scratch their heads and wonder why. (You could replace biotech with Facebook (FB) in this example.)
In the long term, when actual profits are made and more products are developed, the stock may be a huge winner, an obvious choice, but in the short run, nothing goes straight up for long nor is the path clearly higher. There are many slips twixt cup and lip but eventually patient investors get a drink if the company performs.
That's why this inflation scare is noteworthy. It seems almost too obvious. If everyone thinks it's going to happen (and all signs indicate that it should), then maybe it won't, or at least not to the severity initially assumed. Investors would be wise to have part of their portfolio inflation proof with some oil, gold and/or real estate and other commodities, but it would be folly to put all of your investments in that category. Once again, a diversified approach, a truly diversified approach with global assets through ETF's, one that can cover most any economic scenario, is the prudent approach. The one that guarantees you won't get wiped out because you bet everything on the "obvious" investment.
- Ted Allrich
May 22, 2012