American Investment Services, Inc.

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Dec. 2022 – Coping With Inflation

In this issue we turn again to the topic of price inflation. We examine in depth the recent performance of TIPS (page 92), to address the concerns of investors who may be disappointed by the negative returns these inflation protected bonds have generated, even while inflation has been very high. To understand this outcome, one must understand that the components of TIPS return are driven not only by inflation-adjusted cash flows, but also by changes in real interest rates.

We also provide an an article by economist Alexander Salter, a regular AIER contributor, who provides more insight regarding interest rates. Specifically, he scrutinizes the widely held notion that the Fed can control rates.

The chart below provides the outlook for inflation derived from the bond market (based on the “breakeven rate”). The advantage of this projection, as opposed to others based on surveys, is that it provides the consensus view of thousands of lenders and borrowers who “have skin in the game” regarding the outcome.
The surge in CPI inflation in early 2021 was large and unexpected. All three projections increased during this period. But the one-year outlook spiked far more sharply than the five and ten-year measures, indicating that the market regarded inflation as a short-term phenomenon.

All three measures have since converged. The bond market is currently anticipating average annual inflation of two percent for the next 12 months as well as over the next five and ten years.

As we explain herein, skeptical investors can continue to rely on TIPS as a means of insuring against any forthcoming inflation surprises to the upside.

Also In This Issue

Individual Taxpayers: The Year In Review
Retirement Contribution Limits Announced For 2023
Does The Fed Control Interest Rates?
Inflation Is Up, Tips Are Down. Here’s Why
The High-Yield Dow Investment Strategy
Recent Market Statistics
The Dow Jones Industrials Ranked By Yield
Asset Class Investment Vehicles