Investing in Inflation | Motley Fool UK

Even school children learn about the German hyperinflation of the 1920s.

By the end of 1923, the German mark was depreciating so fast that workers were being paid twice a day.

People pushed tires full of worthless banknotes into the grocery store. Others reverted to the barter system. A baker could soon exchange paper money for a few quid instead of receiving paper money that was only used for burning.

Of course, what makes Germany’s hyperinflation warning so powerful is that it raises the deadliest artist in history.

But periods of constant price increases are not that unusual.

Have you ever heard of the inflation in Yugoslavia in the early 1990s?

In the year Between 1988 and 1994, inflation was so high in the now-defunct country that central banks were adding zeros to banknotes with each new issue.

With prices doubling every few days – at most every 34 hours – that was a lot of zeros.

Rumor has it that the bank began to print pictures of random children on the notes instead of the usual scientists and philosophers, because the paper could not be circulated for a long time.

The country’s financial mandarin finally issued 500 billion dinar banknotes.

Stand by Bobby Axelrod! In 1990s Yugoslavia, anyone could be an unhappy billionaire.

Up, up and up

For a long time, these high inflations seemed more like a fairy tale than a cautionary tale.

Inflation has been rampant in the West for two decades, with interest rates near zero since the financial crisis.

But we all know that changed in 2022.

Like snow on King’s Landing, the bad climate of inflation is upon us. Each week seems to bring a worse forecast than the last.

Goldman Sachs said UK inflation could rise by 22% in the spring unless high gas prices ease.

By the time you read this, the city’s rivals may have even raised that estimate.

We’re not buying pints in £50 notes yet – and we hope not soon – but if you read your economic history book, the direction of travel is uncomfortable.

High finance

The workers are already pushing for big wage increases — and for them it’s like the 1970s — and the cost-of-living crisis is front-page news.

But it’s not just us as consumers and bill payers who need to readjust to inflation.

As investors, we also need to understand that inflation can do funny things to the financial landscape.

By far the biggest impact on most portfolios is the reevaluation of growth stocks.

Central banks raise short-term interest rates to combat inflation.

Meanwhile, market forces drive up long-term interest rates as they demand higher yields, eroding the real value of their currencies and causing inflation.

When a distant company’s earnings are discounted to present value, they are depreciated. Investors have a greater preference for money today, and put a lower multiple on the jam tomorrow.

This shift led to the downtrend in tech stocks we saw earlier this year (exacerbating the sell-off of Covid-19 friends that was already underway as economies reopened).

It may seem a bit arcane, but MicrosoftStock prices eventually went down for the same reason egg prices went up.

And there are other more tangible inflation factors that investors should consider.

Entrance and exit

Value stocks did well at first as interest rates rose and those growth stocks sold off.

But many value stocks are not well positioned to withstand high inflation.

True, such companies often lose money. Relatively less weight is given to future earnings.

But these companies may have factories, trucks, and other physical assets that need maintenance and upgrades to stay in business.

As inflation rises, so do these capital and maintenance costs.

Sales may increase, but margins will be squeezed by demands on cash flow.

on the contrary CokeThey don’t need to rebuild a brand or Google search engine every few years.

However, such major companies have the pricing power to rise against inflation.

Intangible assets require some maintenance. Coke’s marketing budget is huge!

However, as Warren Buffett pointed out in the 1970s inflation, this variable makes it preferable for capital-light businesses to pay more if inflation continues.

more or less

At the same time, price increases can even reduce the income of quality companies.

Unilever Inflation rose by 14.9 percent in the first half.

Rival ReckittRevenue grew by 4.4 percent.

At first glance, Unilever is knocking it out of the park.

Dig deeper and Unilever’s merchandise volume is down 1.6 percent in six months. Currency movements factored in, and most of the sales growth came from higher prices.

Or, differently, inflation.

In contrast, Reckitt increased its volume by 1.2 percent. Despite raising prices, he was able to sell more items.

So which company is doing better?

To be clear, both shareholders should be heartened by the fact that they can raise prices.

My point is that we often appreciate even single digit sales growth in times of low inflation.

But high inflation will raise the level.

Accounting for him

There are many other ways that inflation changes how you value a company.

The higher debt on a REIT can be more attractive if it is backed by lower long-term interest rates.

Inflation running above 20% will soon remove the debt burden, while the assets – assets – should go along with price increases in the medium term.

Or what about management performance metrics?

If high inflation continues to inflate the income statement, it will be much easier to meet nominal sales and profit targets.

In particular, you need to monitor the impact of critical input prices such as energy.

Rising gas and electricity bills could soon cripple low-margin sectors like hospitality.

High life

If all of this sounds like too much extra hassle, consider that for managers trying to run their jobs.

Indeed, for most economists, the biggest problem with high inflation is how difficult it makes future planning and capital allocation decisions in business and everyday life. Coins are out of fashion in our digital world. But inflation will be that much harder.

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