Important information: The value of investments and the income from them, can go down as well as up, so you may get back less than you invest.

Caution about the likely effects of the worldwide spread of the Delta variant finally gripped markets last Monday. Shares fell sharply and government bonds rallied, with the yield on benchmark 10-year US Treasuries falling below 1.2% for the first time since February1. Bond yields move inversely to bond prices and, in this instance, the fall in yields was consistent with renewed concerns about world growth.

The latest covid data is stark. With the world’s populations only partially vaccinated, cases now appearing in fully vaccinated patients and social restrictions easing this summer, disruptions from the pandemic may last for longer than we first thought.

Last week’s cautious interlude for markets was surprisingly brief. At the time of writing, America’s Nasdaq Index has recovered all of its dip and more; the FTSE 100 is back where it started the week2. Bond prices have retreated, with the yield on 10-year Treasuries back up to 1.3%. Clearly, investors were prepared to “buy the dip” in stock markets and they did just that.

Investor confidence is understandably robust. Interest rates remain ultra low and the returns on cash deposits have rarely, if ever, been so uncompetitive.

At the same time, bonds, the traditional diversifier for equity investors, offer low levels of income and entail a risk to capital should the inflation rises we have seen so far this year prove to be more than transitory. They might seem a poor choice in a world recovering from a pandemic supported by pent-up consumer demand and record levels of government investment and spending.

None

In an uncertain world, bonds can still serve a valuable purpose. Unexpected challenges to the world outlook can always drive a flight to safety, and where is safer than government backed debt?

Inflation though is the big fly in bonds’ ointment. Unprecedented amounts of government borrowing and spending to get their economies back on track, together with a pent-up demand from consumers suggests we have seen the last of ultra-low inflation.

Inflation erodes the value to investors in the present day of the future fixed interest payments that bonds will make. It also reduces the value in present day terms of the final repayment of capital a bond makes when it matures.

Even if economic growth this year does, ultimately, disappoint, inflation could still be higher than we have become used to. Commodity prices have risen significantly since last year and they’re holding up too. Shortages of silicon chips have already impacted the car industry; now we are seeing disruptions to the food supply chain.

None

A small or moderate amount of inflation is generally a good thing for shares, if it enables companies to raise the prices they can charge their customers and spurs consumers to make purchases in the belief the prices they will have to pay for goods and services in future will be higher.

Thus far, inflation looks to be in a tolerable range and central banks are guiding that the price rises we are now seeing will prove temporary.

As always, it makes sense for investors to maintain a diversified portfolio of assets that not only provides access to the long term growth of stock markets, but also resilience in the face of danger and market volatility.

Fidelity’s Select 50 list contains a number of ideas for fine-tuning an investment portfolio for higher inflation. The Ninety One Global Gold Fund invests in a diverse portfolio of gold mining companies worldwide. It also has the flexibility to buy physical gold ETFs and shares in companies that mine for other precious metals, and currently has a 4% exposure to silver3.  A few percent or so invested in gold could help to cushion an investment portfolio from the adverse effects of a large rise in inflation.

None

Currently trading at almost exactly $1,800 per ounce, gold has yet to quite rescale the record high levels it saw last July at just over $2,0004. In an environment of rising inflation and mounting concerns over the Delta strain, however, it could be on track to do so.

Inflation reduces the buying power of paper currencies, including how much gold can be bought for a given amount of paper. Given that gold is in very limited supply and can’t be devalued in the way that paper currencies can, its value should tend to rise as the prices of goods and services increase.

In recent times, the positive correlation between gold and inflation has grown weaker. That is partly down to gold’s other great attraction as a safe haven, which places it in high demand when economic conditions are weak, central banks are printing money to fund asset purchases (quantitative easing) and inflation is low. These conditions predominated in the aftermath of the global financial crisis of 2008, during the ensuing European sovereign debt crisis and again last year, as the coronavirus pandemic closed down economies.

In the current environment of rising inflation, however, the link between gold and inflation may well become more pronounced. Governments have directed cash straight to workers, businesses and healthcare systems and, with major infrastructure works still to be carried out, commodity prices and wages are likely to remain buoyant.

Another Select 50 choice, the FP Foresight UK Infrastructure Income Fund, offers an exposure to investment companies dedicated to renewable energy and infrastructure projects and targets an attractive annual income from its investments of 5%, although this level of income is not guaranteed. It has the potential to work as a partial hedge against inflation, as the revenues from infrastructure assets are often inflation-linked.

A further alternative worth considering is the iShares Global Property Securities Equity Index Fund. Commercial property is supported in an environment of rising inflation, as landlord rent reviews and new leases are often inflation linked.  This particular fund avoids many of the liquidity issues that can arise from investing in commercial property directly by purchasing the shares of property investment companies included in the FTSE EPRA Nareit Global Real Estate Index. The Fund currently yields 2.15%, which is not guaranteed5.

Multi-asset funds always make a good deal of sense, and this is particularly true in the relatively uncharted territory we find ourselves in today. Multi-asset funds are designed to offer investors a smoother ride, balanced across a broad range of assets – which often includes all of those mentioned above. Their great advantage is that a professional fund manager takes care of the way each asset class can be brought into play to support a particular investment objective and risk level.

Fidelity Personal Investing’s Navigator tool enables you to choose a multi-asset fund that is actively managed, based upon your particular investment goals and attitude towards risk.

Source: 

1 US Department of the Treasury, 22.07.21 
2 Bloomberg, 23.07.21 
Ninety One, 30.06.21
Kitco, 22.07.21 
BlackRock, 22.07.21

Important information: Investors should note that the views expressed may no longer be current and may have already been acted upon. Overseas investments will be affected by movements in currency exchange rates. There is a risk that the issuers of bonds may not be able to repay the money they have borrowed or make interest payments. When interest rates rise, bonds may fall in value. Rising interest rates may cause the value of your investment to fall. Select 50 and the Navigator tool are not personal recommendations to buy or sell a fund or in respect of a particular investment. The FP Foresight UK Infrastructure Income Fund investment policy means it invests mainly in units in collective investment schemes. The fund also uses currency hedging. Currency hedging is used to substantially reduce the risk of losses from unfavourable exchange rate movements on holdings in currencies that differ from the dealing currency. Hedging also has the effect of limiting the potential for currency gains to be made. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to a Fidelity adviser or an authorised financial adviser of your choice.

Share this article

Latest articles

Where next for Kingfisher shares as Screwfix-owner gives update?

Can the lockdown DIY frenzy sales boom persist in a re-opened world?


Emma-Lou Montgomery

Emma-Lou Montgomery

Fidelity International

Stop worrying about a crash: the bull market has further to run

Should investors really worry about inflation, Covid and US tapering?


Tom Stevenson

Tom Stevenson

Fidelity International

Where did UK consumers spend their money in August?

The UK ventured out last month as retail sales fell


Graham Smith

Graham Smith

Investment writer