The Daily Telegraph - Saturday - Money
Diary of a private investor
The stock market is a powder keg and inflation is the spark that will blow it up
The stock market seems to be trundling gently upwards as if it did not have a care in the world. The FTSE 100 started the year at 6,460 points and as I write is sitting comfortably on a climbing trend that has taken it to between 6,900 and 7,000. All seems reassuring. The sun is shining and we are gradually coming out of lockdown. But as far as I am concerned it feels like we are sitting on a bomb that could go off at any moment.
What am I worried about? I am concerned that the money supply in Britain has risen extremely fast in the past year – by around 15pc – and that this will lead to inflation. I fear that a surge in inflation will lead to higher interest rates. Higher interest rates will make the dividend yield on shares less attractive.
Meanwhile some companies that are highly leveraged with big loans will face higher costs and may find themselves in difficulty. People who have large variable- rate mortgages may suddenly find they have to pay much more interest. There could be an explosive combination of factors that affect both the economy and the value of shares.
We have begun to see the first signs of inflation already. The Producer Price Index is now nearly 2pc higher than a year ago. That does not sound much but this is a big turnaround. In May last year the figure was minus 2pc. Producer prices offer a forewarning of consumer prices although it is true that other factors also influence consumer prices.
There has been a massive rally in commodity prices. House prices in Britain have risen by 8.6pc in the past year despite the disruption of lockdowns. These are many signs of loose money and that leads to inflation.
The Purchasing Managers’ Index of manufacturing activity indicates a rapid economic rebound. That is great but it is so very rapid that the index is at its highest level in 26 years! That is too fast and, again, likely to create inflation.
In response to such news, the bond markets of the world took a hit in February. Our own 10-year interest rate on British government bonds jumped from 0.3pc to 0.8pc. So it has already been a lousy year to hold long- term bonds. When the stock market saw this happen, it hesitated a little. Then it resumed its upward trend. It was like the character in the TV comedy
The money supply has soared, inflation will surely follow 5 0 2005 2010 2015 2020
Show who used to say: “Am I bovvered? I’m not bovvered. Look at my face! Do I look bovvered? I’m not bovvered!”
And so, for the past few months, all has been well. The stock market has lived very happily with inflation ticking up a bit and long-term interest rates rising from the floor to the point where they are still very low by historic standards. But if, as I expect, inflationary pressure keeps growing and interest rates rise much further, shares will eventually take fright. Imagine if interest rates rose to 5pc or more. That would be an enormous shock to the system.
It won’t happen this month and perhaps not this year. But one day it will. That is why I feel that I am sitting on an unexploded bomb.
You will probably think that, logically, I should be selling my shares fast. I am trying to persuade myself to do this but frankly I am finding it difficult. I am attached to my shares. They have mostly been going up this year. I have been getting better off by holding on to them. Quite a few of my British shares look like good value by any traditional measure.
And they pay lovely dividends. If I hold cash, the interest I receive will be derisory. To be painfully honest, I must admit that I have less than 4pc of my portfolio in cash. I also have some exchange-traded funds designed to go up if interest rates rise. But overall I am still heavily invested in shares.
I am gearing myself to sell more, though. One simple reason is that we have just entered May. The adage is “Sell in May and go away”. For reasons no one seems to know, this has often been sound advice and that’s good enough for me.
I will indeed try to force myself to sell more, particularly shares that are highly valued, such as my Korean ones. But I will probably not sell aggressively until I see the current upward trend falter. As a chartist I knew once remarked, “a trend goes on until it stops”.
Logically I should be selling my shares fast but frankly I am finding it difficult