Future Fund
- The Future Fund released a portfolio construction piece since 2021 - 7648B5ACC4A44864B4EBBFEB43B3B2BC.ashx
- Inflation and growth are crucial core assumptions in portfolio construction.
- Rising prices can increase cash flows. High quality businesses or commodity related companies for example can “pass-through” inflation well. Revenues therefore increase more strongly than costs, making for a stronger bottom line in these types of companies/assets.
- Rising prices hurt asset valuations, as increasing inflation expectations increase the future discount rate used to calculate the present value of future cash flows. Higher discount rates decrease the value of the asset as future cash flows are worth less in today’s dollars. Equally the greater the time horizon these cash flows extend the greater the asset’s sensitivity to discount rate changes
- It is the net impact of these two effects that determine an asset’s behaviour in an environment of rising inflation.
- Certain assets that are viewed as traditionally providing a hedge against inflation have characteristics that break-down when inflation rises above certain inflection points (5- 6%+ pa)… a break down in broad asset class correlations, materialise above these levels … i.e. the e negative asset correlation between listed equities and bonds – this tenet of portfolio construction breaks down as inflation rises, with correlations becoming positive as inflation rises above 5-6% pa.
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