IDEA of the month: Buying inflation protection
We had reduced the equity weight in our index portfolio from 30% to 10% on 11 February and further from 10% to -2.5% on 24 February 2011. In light of the high volatility in the last days, the current geo-political environment and rising oil prices we see more downside risks than upside chances for equity markets in the shorter term and stick to our cautious equity …..
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stance. This month we buy inflation protection by buying the ‘EURO INFLATION SWAP 5 YEAR TR INDEX’ with 10% weight. The inflation swap index offers protection against rising inflation without suffering from rising interest rates (see details page 6). The Eurozone inflation swap index currently prices in an inflation of 2.2% per year over the next 5 years. For investors who expect (or see a significant risk) that Eurozone inflation comes in clearly higher than 2.2% per year, the inflation swap index could be of interest, in our view. In the view of our economists, the world could relatively fast return to the 5%-6% global inflation rates of 2008. A monetary policy that is too easy at the global level is driving the prices of goods, services, commodities, and assets. The uncertainty about the longer-term inflation outlook has risen substantially in the light of the rising oil and commodity prices. Rising inflation in the emerging market economies could well come back to the industrial countries including the Eurozone like a boomerang.
This month we sell the Stoxx Banks index ahead of the European summit at the end of March where the final shape of the ESM could disappoint the market. We also sell the Food & Beverage short index. We keep our relative trade Long commodities vs. Short EM equities. The long held correlation of commodities to equity and FX markets has recently broken down as the commodity market has shifted focus to physical drivers. We also keep our Short Iboxx Euro Sovereign Eurozone index as we continue to expect rising interest yields.
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