Inflation is biggest risk to portfolios, say investors

Inflation has topped a list of risks to investment portfolios, according to a survey of UK investors. It beat a slow economic recovery in the UK and geopolitical conflict to come out as the biggest concern among investors.

The poll comes as the Office for National Statistics (ONS) prepares to release the July inflation figures this Wednesday, on 14 August. The Consumer Prices Index (CPI) measure of inflation has been neatly at the Bank of England’s target of 2% for the past two months, but analysts predict we could see an increase in the July reading.

The survey by RAW Capital Partners, a Guernsey-based investment management firm, polled 756 UK-based investors with investments worth more than £25,000, excluding the value of their residential property, savings and pensions. It asked them which factors, or events, they thought were the highest risk to their portfolio performance. 

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Inflation ranked top, with 89% of respondents saying this presents a “high risk” or “moderate risk”. This was followed closely by a slow economic recovery in the UK (88%) and geopolitical conflicts, such as the wars in Ukraine and Gaza (87%). Lower on the list, 82% saw high interest rates as a risk to their investments while the US presidential election (81%) and climate change (79%) were also considered to pose notable risks to UK investors’ portfolios. 

“Globally, economies have been struggling with the impact of high inflation for some time, and the action that central banks like the Bank of England have taken to bring it down has made it extremely difficult for any meaningful economic growth,” comments Ben Nichols, interim managing director at RAW Capital Partners.

“This has clearly taken its toll on investors, with inflation remaining a major risk in their eyes, while a slower-than-hoped economic recovery in the UK is evidently another concern.”

What’s the outlook for UK inflation?

Inflation is widely expected to increase this year. In May, it fell from 2.3% to 2%, hitting the Bank of England’s 2% target for the first time in almost three years. Inflation then stayed at 2% in June. A survey of 54 economic forecasters by Bloomberg suggests that we could see inflation climb back up to 2.6% by the end of the year and July’s reading could show a rise compared to the previous month. 

Jonathan Moyes, head of investment research at Wealth Club, explains: “Part of the expected rise is for technical reasons. The reduction in the energy price cap last year is ‘falling out’ of the annual inflation calculation, meaning the negative effect of the lower price cap no longer drags down the average annual inflation figure for the previous 12 months.”

Stubbornly persistent services inflation could also have more of an impact on the overall inflation figure.

Steve Clayton, head of equity funds at Hargreaves Lansdown, notes: “If the July figure comes in no worse than 2.3%, we doubt investors will be too spooked by an edging up. Any signs of weakening service sector inflation will also be taken positively. 

“But if we see prices ticking up much above that 2.3% level, investors are likely to start scaling back their expectations of how far and how fast the Bank of England will be able to make further reductions in their base rate.”

Inflation has fallen significantly since it hit 11.1% in October 2022, the highest rate for 40 years. While no one is predicting a return to double-digit inflation in the near future, Ben Yearsley, investment consultant at Fairview Investing, says he’s aware of investors being worried about rising inflation.

“The public sector pay deals have the potential to escalate at exactly the wrong time. If other parts of the public sector follow suit, what happens then? Add in increased shipping costs and possibly more Russian gas issues and there could well be an uptick,” he tells MoneyWeek.

How can investors inflation-proof their portfolios?

The best way to inflation-proof a portfolio is to adopt a well-diversified portfolio and a long-term approach. This means a mix of assets like global equities, fixed income, property, infrastructure, private equity and commodities.

Gold is normally seen as a good hedge against inflation, and last month the yellow metal hit a new record high. Infrastructure can also help protect against inflation. 

Yearsley comments: “Nothing really works perfectly over the short term. Gold has done quite well this year. It obviously doesn't pay an income so there is an opportunity cost to holding it when you can get 4% or more on cash.

“Infrastructure is another area that works well over the long run, that actually looks cheap today as it's been in the doldrums a bit. Infrastructure funds typically own assets where the underlying cash flows have some inflation-linking.”

The investment consultant says he’d stick to infrastructure for inflation-proofing, and recommends First Sentier Responsible Listed Infrastructure as a broad fund, or more specialist trusts such as Downing Renewables and Infrastructure or International Public Partnerships.

Moyes likes Brookfield Infrastructure Partners Corporation: “Dual-listed in Canada and the US, the investment company is managed by Brookfield Asset Management, one of the world’s top infrastructure investors. The company owns large-scale assets that are critical to a well-functioning modern economy, such as gas pipelines, mobile phone towers, data centres and shipping containers.” The assets typically come with revenue streams linked to inflation. 

The share is held across Wealth Club portfolios. Moyes adds: “It has a dividend yield of around 4.4%, and targets dividend growth of 5-9% per annum. We believe in everything in moderation, [so it] does not currently constitute more than 2% of a Wealth Club Investment Portfolio.”