Over the past two months, economic growth has disappointed even as inflation has exceeded expectations. A real risk of stagflationary conditions, with rising costs amid lower growth, appears to be on the cards.
Stagflation, if severe, can be damaging to both the economy and financial markets. But we don’t need a repeat of the 1970s for assets to be affected. Our analysis shows that even mild stagflationary conditions can have similar asset impacts to those in more severe stagflations.
Stagflation has historically hit equities hard. Fixed-income returns have been variable, while both commodities and gold have fared well. Gold’s historically strong performance can be attributed to:
• higher inflation and market volatility– supporting capital preservation motives
• lower real interest rates – supporting both opportunity cost and growth risk motives.
But the World Gold Council cautions against prescriptively applying historical performance to future expectations. Some additional considerations are:
• Gold’s strong performance since 2018 could be a headwind, but our analysis shows that it need not be
• Gold hasn’t benefited from record-low real rates and high inflation in 2021. We believe this has to do with rosy expectations about inflation, growth and equities
• Record low yields might constrain bonds’ hedging potential in a risk-off event, offering gold an opportunity to command some of those defensive flows, should a shock to risk assets materialise.
Negative surprises in growth data during positive surprises in inflation data
Global economic and inflation surprise indices.