Inflation and the Fate of Fed Easing 

Andreas Utermann 

5 Questions with Andreas Utermann 

2/25/2013 

Our global CIO discusses the current macro picture, his outlook for stocks and the role central bankers play in lighting the path to recovery while keeping inflation in check.
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So far, 2013 has been a year of milestones. The stock market has been on a tear, hitting new five-year highs each week. US Treasury yields recently reached 2% for the first time since April 2012. Manufacturing activity notched a nine-month high in January. And home prices are rising at the fastest pace in six years.

Is it too early to celebrate? Perhaps. But there’s good cause for optimism, says Andreas Utermann, global chief investment officer at Allianz Global Investors, in an interview. The Fed’s latest comments point to a return to GDP growth and rising stock values in the months ahead, Utermann says. However, he adds, financial repression and long-term inflation remain formidable obstacles.
1
What are the key takeaways from the Fed’s comments following the January FOMC meeting and what are their implications for US stocks and investors?

Recent Fed remarks offered several key takeaways: Accommodative policies will remain in place for a long time. The US economic recovery is on track. We now have confirmation that a housing recovery is underway. And concerns that the Fed would put a stop to loose monetary policies in the coming months appear to be unfounded, particularly with inflation well anchored.
The search for real returns will remain the most pressing challenge for investors in the foreseeable future, as governments and central banks contend with massive debt, which has prompted repeated rounds of quantitative easing in a number of OECD economies. For 2013, we expect equities to continue to outperform bonds with overall returns ranging from 8% to 10%. There’s more volatility ahead and any significant weakness should be viewed as a long-term buying opportunity.
2
Have we reached an inflection point for the global economy or are there still too many wild cards?

We’ve maintained for some time that the global recovery is in place and that it would proceed at a slow pace in 2013, providing room for continued quantitative easing by the world's central banks. We expect central bankers to continue their ultra-loose monetary policies until economic growth is firmly established. In the United States, that means at least 18 more months. There are indeed signs of green shoots in the euro-zone periphery and China's robust growth should continue. Overall, market participants that are in a position to escape financial repression—those who don’t have to own long-term government bonds—have shifted to a “risk-on” mode that will continue throughout 2013, albeit with some hiccups along the way.
3
What’s your outlook for inflation?

While we expect inflation to remain low in the near-term, we believe investors should keep a watchful eye on the longer-term inflation picture. Large stimulus injections into economies tend to spur inflation. As such, investors with long-term time horizons should have substantial exposure to inflation-hedging asset classes. In other words, real returns matter.
4
How do aggressive government policies, in this case financial repression, play a role in investors losing wealth to inflation?

Governments in economically mature countries around the world are attempting to reduce their debt burdens by devaluing national currencies. These repressive policies include lowering interest rates, increasing regulations and restricting capital movements while maintaining inflation. Central banks, including the Fed, are keeping their target rates at or near 0%. This is a “stealth tax,” which takes a toll on savers, particularly retirees, who depend on income from their savings. They may not notice as it’s happening, but the reality is they could be losing money every day.
5
What can investors do to arm themselves against this threat?

Investors should consider asset classes that can help generate positive after-inflation returns and growth. Stocks and high-yield bonds—as opposed to CDs and Treasuries—are more likely to deliver the income investors need. Specifically, dividend-paying stocks are well suited for the type of low growth and low interest rates we’ve seen in past periods of financial repression. Select corporate bonds too. Less traditional asset classes such as commodities and real estate—due to their low correlations to equities and fixed-income—also offer an inflation hedge. Elsewhere, emerging-market stocks are a smart way to generate growth in a portfolio when domestic growth is scarce. And emerging-market bonds, particularly in Asia, are sporting an attractive risk-return profile.
The material contains the current opinions of the author, which are subject to change without notice. Statements concerning financial market trends are based on current market conditions, which will fluctuate. References to specific securities and issuers are for illustrative purposes only and are not intended to be, and should not be interpreted as, recommendations to purchase or sell such securities. Forecasts and estimates have certain inherent limitations, and are not intended to be relied upon as advice or interpreted as a recommendation.

 
A Word About Risk: Equities have tended to be volatile, and [unlike bonds] do not offer a fixed rate of return. Bond prices will normally decline as interest rates rise. High-yield or “junk” bonds have lower credit ratings and involve a greater risk to principal. Dividend-paying stocks are not guaranteed to continue to pay dividends. U.S. Government bonds and Treasury bills are guaranteed by the U.S. Government and, if held to maturity, offer a fixed rate of return and fixed principal value. Foreign markets may be more volatile, less liquid, less transparent and subject to less oversight, and values may fluctuate with currency exchange rates; these risks may be greater in emerging markets. Investments in commodities may be affected by overall market movements, changes in interest rates, and other factors such as weather, disease, embargoes and international economic and political developments.

Allianz Global Investors Distributors LLC, 1633 Broadway, New York NY, 10019-7585, us.allianzgi.com, 1-800-926-4456.

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