Inflation

Inflation

Young Investors vs Inflation

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By Shiraz Ahmed, Raymond James Ltd.

Special to the Financial Independence Hub

Until recently young investors were not terribly concerned with inflation. Why should they have been? It was so low for such a long time that we could predict with pretty good accuracy what was around the corner, at least, in terms of the cost of living. But those days are long gone.

Simply speaking, inflation can be defined as the general increase in prices for those staple ingredients of daily life. Food. Gas. Housing. What have you. And as those prices rise the value of a purchasing dollar falls. When these things are rising at 1% a year, or even less, investors can plan and strategize accordingly. But when inflation is rising quickly, and with no end in sight, that is very different and this is where we find ourselves today.

Someone with hundreds of thousands of dollars to invest, but who must wrestle with mortgage payments that suddenly double, is into an entirely new area. It happened back in the early 1980s when mortgage rates went as high as 21%. Many people lost their homes. But even rates like that pale in comparison to historical examples of hyperinflation.

In the 1920s, the decade known as The Roaring Twenties, the stock market rose to heights never seen before and for investors it was seen as a gravy train with no end in sight. But that was not the case in Germany where a fledgling government – the Weimer Republic – was desperately trying to bring the country out of its disastrous defeat in World War I. Inflation in Weimer Germany rose so quickly that the price of your dinner could increase in the time it took to eat it!

Consider that a loaf of bread in Berlin that cost 160 German marks at the end of 1922 cost 200 million marks one year later. By the end of 1923 one U.S. dollar was worth more than four trillion German marks. The end result was that prices spiralled out of control and anyone with savings or fixed incomes lost everything they had. That in no small way paved the way for Adolf Hitler and the Nazis. Let us also not forget that the gravy train of the Roaring Twenties eventually culminated in the stock market crash of 1929 which led to the Great Depression.

Continue Reading…

Relationship between Inflation and Asset Price Returns

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By Myron Genyk,  Evermore Capital

Special to Financial Independence Hub

You see lots of people on business channels and investing blogs talking about the types of things to invest in when inflation is high – energy stocks, material stocks, value stocks, dividend growth stocks, floating rate bonds, inflation bonds, oil, copper, gold, silver, crypto, etc. OH MY! – and what types of investments you should avoid.  On the surface, it’s pretty reasonable advice. 

“Of course!!  I should be invested in something that does well when inflation is high!  Inflation is high now!  And everyone says it’s going to continue like this for a long time!  And I want my investments to grow!”  But before we go leaping and investing in whatever it is that’s great during inflationary times, let’s explore the soundness of the argument itself.

The Tautology of it all

I’m always a little amused when people say things like:

“When market variable X is high (or low), that will cause thing Y to happen, which will cause thing Z to occur, which will cause some asset A to go up (or down).  And so when market variable X is high/low/whatever, then buy (or sell) asset A.  Easy peasy!”

There’s a lot happening there, but at its core, it’s just a chain of events:  X leads to Y leads to Z leads to A going up (or down).  At each step, there are assumptions baked in, assumptions that aren’t exactly baked into the fabric of the universe, but let’s leave that for now.  Because what is more interesting here is that the expression above can be simplified as follows:

“When asset A is going to go up, you should buy asset A.”

This is much cleaner.  It removes all the unnecessary hand-waving (but, perhaps the hand-waving IS necessary … but by whom?  And for what purpose?) and lays bare what is actually being said:

“Buy things before they go up in value.” Continue Reading…

An Ode to Dividends

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By Noah Solomon

Special to the Financial Independence Hub 

Companies that pay sustainable dividends have provided the best returns over time, including during periods of elevated inflation.

Ned Davis Research (NDR) studied the relative performance of S&P 500 stocks according to dividend category from 1973-2020. Their findings are summarized in the following table:

 

Returns by Dividend Category (1973-2020)

Over the past 48 years, dividend-paying stocks have outperformed their non-dividend paying counterparts by 4.7% on an annualized basis. When coupled with the power of compounding, this difference is nothing short of astronomical. A $1 million investment in dividend payers over the period would have been valued at $68,341,836 as of the end of 2020, which is $60,070,380 higher than the value of only $8,271,456 for the same amount invested in non-dividend paying stocks.

Within the dividend-paying complex, dividend growers and initiators have been the clear champions, with an annualized return of 10.4% vs. 9.2% for all dividend-paying stocks. A $1 million investment in dividend growers and initiators would be valued at $115,482,326, which is $47,140,940 more than the same amount invested in all dividend payers.

Not only have dividend-paying companies outperformed their non-dividend paying counterparts, but they have done so while exhibiting lower volatility.

NDR’s study also examined the relative performance of dividend payers vs. non-payers in various macroeconomic environments. Specifically, their research set out to ascertain how the outperformance of dividend vs. non-dividend paying stocks has been impacted by inflation, economic growth, and interest rates.

Inflation’s Impact on Returns by Dividend Category (1973-2020)

Dividend-paying stocks have on average outperformed their non-dividend paying counterparts regardless of whether inflation has been low, moderate, or high.

Unsurprisingly, dividend growers and initiators outperformed other dividend-paying companies during periods of moderate to high inflation.

The Economy’s Impact on Returns by Dividend Category (1973-2020)

During recessions, dividend-paying stocks have underperformed non-payers by 2.5% on an annualized basis. This shortfall pales in comparison to their 4.8% outperformance during economic expansions, especially considering that economies spend far more time expanding than contracting. Continue Reading…

A higher dividend yield isn’t always better: How to spot the good from the bad to avoid this costly mistake.

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is higher yield dividend better

Investors interested in dividends should only buy the highest-yielding Canadian dividend stocks if they meet these criteria — and don’t have these risk factors

Dividend yield is the percentage you get when you divide a company’s current yearly payment by its share price.

The best of the highest-yielding Canadian dividend stocks have a history of success

Follow our Successful Investor philosophy over long periods and we think you’ll likely achieve better-than-average investing results.

Our first rule tells you to buy high-quality, mostly dividend-paying stocks. These stocks have generally been succeeding in business for a decade or more, perhaps much longer. But in any case, they have shown that they have a durable business concept. They can wilt in economic and stock-market downturns, like any stock. But most thrive anew when the good times return, as they inevitably do.

Over long periods, you’ll probably find that a third of your stocks do about as well as you hoped, a third do better, and a third do worse. This is partly due to that random element in stock pricing that we’ve often mentioned. It also grows out of the proverbial “wisdom of the crowd.” The market makes pricing mistakes and continually reverses itself. But the collective opinion of all individuals buying and selling in the market eventually beats any single expert opinion.

Canadian dividend stocks and the dividend tax credit

Canadian taxpayers who hold Canadian dividend stocks get a special bonus. Their dividends can be eligible for the dividend tax credit in Canada. This dividend tax credit — which is available on dividends paid on Canadian stocks held outside of an RRSP, RRIF or TFSA — will cut your effective tax rate.

That means dividend income will be taxed at a lower rate than the same amount of interest income. Investors in the highest tax bracket pay tax of around 29% on dividends, compared to 50% on interest income. At the same time, investors in the highest tax bracket pay tax on capital gains at a rate of about 25%.

The Canadian dividend tax credit is actually split between two tax credits. One is a provincial dividend tax credit and the other is a federal dividend tax credit. The provincial tax credit varies depending on where you live in Canada.

A couple of decades ago, you could assume that dividends would supply up to about one-third of the stock market’s total return. Dividend yields are generally lower today than they were a few years ago, but it’s still safe to assume that dividends will continue to supply perhaps a third of the market’s total return over the next few decades. Continue Reading…

A closer look at Inflation

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By Alizay Fatema, Associate Portfolio Manager, BMO ETFs

(Sponsor Content)

While inflation was sidelined by several central banks and deemed as “transitory” for the most part during 2021, the tone shifted promptly this year as back-to-back red-hot inflation prints forced most central banks to go on an interest-rate hiking spree. This aggressive action is being taken to tame inflation otherwise known as the rate of change in prices over time, [1], as it’s persistently high and is eroding the purchasing power of households, reducing consumer spending, and the overall economic well-being.

What are the causes of inflation?

Before we discuss whether inflation will slow down or not, let’s take a step back and analyze what’s causing prices to rise globally in the first place. Most economists attribute this uptick in inflation to several different causes such as:

  • Cost-push inflation driven by supply chain crisis

The COVID-19 outbreak led to a series of lockdowns and restrictions across the globe, which caused supply chain disruptions and labour shortages and ultimately induced cost-push inflation [2], resulting in a surge of prices due to an increase in costs of producing and supplying products and services. World economies are still recovering from this effect, and some of these constraints are fading away as global transportation costs plunge and Chinese production ramps up again. However, the Russian invasion of Ukraine is clearly hampering this progress and further stoking inflation.  [3]

  • Demand-pull inflation fueled by savings, fiscal stimulus, and monetary policy

The pandemic had caused an unconventional recession, and to keep economies afloat, several central banks slashed their interest rates, increased their money supply M2 (a measure of the money supply that includes cash, checking deposits, and easily- convertible near money)., gave out government aid, relief, & stimulus payments as part of the fiscal response during 2020 & 2021. As businesses reopen this year after remaining shuttered and reducing their production and services, they could not meet the pent-up demand driven by savings accumulated during the pandemic along with the monetary & fiscal stimulus. Thus, strong consumer demand, fueled by robust growth in employment, has outstripped supply temporarily for several products & services such as air travel, hotels, cars, etc., resulting in demand-pull inflation [4].

 

A series of interest rate hikes to curb sky-high inflation

The price increases for gasoline, food, and housing caused Canada’s inflation to rise to a 39-year high of 8.1% in June 2022. The markets got some respite in August as headline inflation came down to 7% and further weakened in September to 6.9% from a year ago, as gasoline prices fell. However, the recent data was disappointing as the dramatic increase in food prices was unexpected.

On a similar note, south of the border, the U.S. inflation spiked to 9.1% in June 2022, the highest level since 1981. Although headline U.S. inflation reported for September was up by 8.2% from a year earlier (down from the peak of June 2022), the core U.S. consumer price index (ex. food & energy) rose to a 40-year high, increasing to 6.6% from a year ago, which is a cause of concern as its squeezing households by outpacing the growth in wages.

To dial down the surge in prices, the Federal Reserve engaged in a series of rate hikes not seen since the late 1980s, increasing the front-end interest rate to 3.25% in September. The Bank of Canada followed suit by raising rates through consecutive outsized hikes, bringing its target overnight rate to 3.75% in October. Given inflation is still sky-high in both countries and way above their 2% target, both Fed & Boc are expected to raise their short-term rates again. Both central banks are maintaining their hawkish tones, which means the rates will be further raised to fight against raging inflation. However, they may dial back the pace of their hikes amid recession fears.

When will we see a slowdown in inflation?

Looking at recent CPI prints, the question arises whether the U.S. and Canada have passed peak inflation. The truth is it’s hard to predict what lies ahead. Prices in some sectors, such as gas and used automobiles, have dropped, which is a good sign. However, prices for certain goods & services are “stickier” than others, such as rent, insurance, health care or dining out, meaning that they are likely to stay at their current levels or increase even further, so inflation may stick around for a while. Moreover, higher wages and inflation may continuously feed into each other, resulting in a wage-price spiral [5] which may result in further rate hikes, causing additional damage. Continue Reading…