Investing_in_Inflation_Protection_Nov_2010

Investing_in_Inflation_Protection_Nov_2010 - Investing in...

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MSCI Applied Research © 2010 MSCI. All rights reserved. 1 of 27 Please refer to the disclaimer at the end of this document. Investing in Inflation Protection Inflation-Protected Bonds (IPBs) 1 — Exploring Historical Inflation, Deflation, and Diversification November 2010 Anand S. Iyer, CFA Jennifer C. Bender, PhD 1 We would like to thank Christopher Finger, Lisa Goldberg, George Zhou, John Fox, and Erdem Ultanir for their comments and contributions.
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Investing in Inflation Protection | November 2010 MSCI Applied Research © 2010 MSCI. All rights reserved. 2 of 27 Please refer to the disclaimer at the end of this document. RV0710 1. Investing in Inflation Protection The Decade Ahead: Inflation or Deflation? Both inflationary and deflationary concerns have emerged as global economies continue to struggle with recovery. Prior to the financial crisis, asset prices had soared, energy prices most spectacularly, causing inflation to peak in many western countries. US inflation, for instance, hit a high of 5.5% in July 2008. The crisis propelled the shift in economic sentiment that had already begun to deteriorate in the beginning of 2008. Inflation rates across the globe were near flat or even negative in 2009: 0.3% (US), 0.5% (UK), and 0.4% (euro area). In the US, over the 12 months ending in September, CPI-U rose 1.14%; year-to-date, the index has risen just 0.53%. Overall US inflation still remains well below the historical average. Exhibit 1, for instance, shows the most recent consensus forecasts for US and euro area inflation provided by the Philadelphia Federal Reserve Bank’s Quarterly Survey of Professional Forecasters and the ECB Survey of Professional Forecasters. These remain well below long-run rates. 2 Exhibit 1: Consensus Forecast for Headline Inflation (US: 2010 Third Quarter Release; Europe: 2010 Third Quarter Release) US Forecast Inflation Rate Europe Forecast Inflation Rate 2010:Q3 1.4 2010 1.4 2010:Q4 1.6 2011 1.5 2011:Q1 1.8 2012 1.7 2011 Q4/Q4 Average 1.8 June 2012 1.7 2012 Q4/Q4 Average 2.1 June 2015 2.0 2010-2014 Average 2.00 2010-2019 Average 2.30 Sources: Philadelphia Federal Reserve (August 13, 2010); European Central Bank (August 13, 2010) Looking forward, there are several points of debate. On one hand, inflation concerns have arisen based on low interest rates, the implementation of Quantitative Easing, the expansion of the monetary base, and the size of fiscal stimuli implemented in many countries. On the other hand, restrained economic growth, high unemployment rates, low velocity of money, and low capacity utilization have posed major risks to the recovery that continue to fuel deflationary concerns. These fears vary depending on the country in question. Inflation concern is stronger in countries with fast-rising consumption, such as China, India, and Australia. They are weaker in Western economies that have muted consumption.
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Investing_in_Inflation_Protection_Nov_2010 - Investing in...

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