https://www.youtube.com/watch?v=/xcjJbBpJsT4

Gold and oil are not ideal investments for those seeking inflation hedging, according to Nancy Davis, Founder and Managing Partner of Quadratic Capital Management. Davis spoke with David Lin, Anchor and Producer at Kitco News.

Stock and Bond Markets

Davis commented on the recent stock market selloffs. She attributed the fall in prices to companies facing higher costs.

“This is a little bit of a wakeup call,” she said. “…Investing is risky and, you know, especially when you’re buying corporate securities, whether it’s their stocks or their bonds, if that corporation has higher costs, maybe in the form of labor costs, more supply side disruptions in the form of, you know, all the things that are happening around the world from a geopolitical and COVID perspective, coupled with consumer confidence in this country is at lows from 2008.”

Davis also said that markets have “priced in” the Federal Reserve’s projected interest rate hikes. Fed Chairman Jerome Powell recently raised interest rates.

“Now I think it’s really important for investors to realize that the rate hikes from the Fed have already been priced in,” she remarked. “The Fed has only hiked 75 basis points so far, but the interest rate markets have moved with the Fed’s forward guidance. So… we have about six months left in the year in 2022, and the rates market has priced in 175 basis points. So, if the Fed does not hike 175 basis points, they’re actually going to be easing rates.”

Inflation and CPI

Davis said that the Fed has not lost credibility with investors.

“I know the Fed has gotten a lot of critics saying they’re not credible and all those things,” she mentioned. “I am not one of those. I think the Fed is doing the best job they can with the tools they have available… I think using the balance sheet more as a tool to fight inflation is prudent… [It] seems like they’re going to be using that in addition to hiking policy rates.”

Davis also said that the Consumer Price Index is not the only way to calculate inflation.

“The big problem I see with CPI alone is that a third of the index, approximately 33 percent, is what they call ‘shelter,’ and it’s actually owner-occupied rent,” she said. “… Year over year, rent increases are up about 1.5 percent, whereas home ownership prices are up closer to 20 [percent].”

Do Gold and Commodities Hedge Against Inflation?

Davis’s company, Quadratic Capital, has a fixed-income IVOL ETF that protects against inflation. According to Davis, “85 percent of the portfolio” is composed of Treasury Inflation-Protected Securities (TIPS).

“But then we try to fix the problems that exists with TIPS alone… [We] actually try to profit when long-dated yields move higher, which would likely happen in a stagflationary or inflationary environment… And the other really attractive thing in my opinion for investors is we own options. And whenever you own options… you’re long volatility on the underlying asset class… So we actually own fixed-income volatility, which is a nice potential diversifier.”

She added that real assets, such as energy and gold, are not the best inflation hedges.

“I personally think, you know, energy and gold and all these real assets may not be the best inflation asset because… they don’t pay any coupons so there’s no monthly distribution at all,” said Davis. “They do have carry costs… Gold is not an inflation hedge, in my opinion, it’s a currency trade. It has no yield, it has no carry.”

For more information on inflation hedging, watch the video above.

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