Long thought to be dead and a baby boomer nightmare from the 1970s, inflation made a comeback in the 2021-22 financial year, proving that it indeed was just resting and can raise its ugly head when the circumstances are right, AMP’s Shane Oliver said.
In his latest market update, the chief economist explained that last year showed just how much damage inflation can do to assets like bonds and shares if it gets out of control. He warned that shares may still fall further.
While he believes that permanently higher inflation will be avoided because of swift action from the central banks, Dr Oliver noted that inflation is still rising and where it’s not, it’s still too high for comfort.
“Inflation expectations still risk breaking higher which would make it even harder to get inflation back down and central banks “unconditional” focus on keeping inflation expectations down and returning inflation to target means even higher interest rates which is resulting in a rising risk of recession,” he evaluated.
The bottom line, Dr Oliver noted, remains that until there is clear evidence that inflation is falling, central banks will continue tightening, keeping recession risk high.
“And if a recession eventuates, shares likely have more downside as earnings start to fall, because the falls in markets so far mainly reflect a valuation adjustment in response to higher bond yields.”
As such, he noted “it’s still too early to say that shares have bottomed”.
“The September quarter is traditionally weak for shares which suggests shares could still fall into September or October.”
Over the past year, global shares lost 11.1 per cent in local currency terms. A fall in the growth-sensitive Australian dollar saw this reduced to a loss of 6.5 per cent. This followed gains of 37 per cent and 28 per cent respectively in the previous financial year.
Naturally, the most speculative assets like tech stocks (with Nasdaq losing 24 per cent) and crypto currencies (with Bitcoin down 46 per cent) were hit the hardest.
Looking ahead, Dr Oliver said that while short-term forecasting is fraught with difficulty, “it’s best to stick to sound long-term investment principles in times of uncertainty”.
Several things are worth keeping in mind at present, he noted, including that “setbacks in shares are normal” and that “Australian shares still offer an attractive dividend yield versus bank deposits”.
“During periods of uncertainty when negative news reaches fever pitch, it makes sense to turn down the noise around investment markets in order to stick to an appropriate long-term investment strategy,” Dr Oliver added.
Inflation is predicted to reach 7 per cent year-on-year in Australia this year.
