Inflation might be major headwind for income-focused investors

Rising inflation could become a major headwind for income-focused investors, surprising those who are not prepared, according to Eaton Vance Investment Managers.

The firm said that the expectations that the inflation is going to rise were based on the following factors:

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• Governments focusing more on fiscal policies and spending to maintain economic growth. • Trade wars and tariffs that are already driving price increases.

• Expectations of wage growth as the labour market continues to tighten.

• Companies’ apparent confidence they can pass along higher costs to consumers.

• Expectations of higher housing costs.

• Expectations of a weaker US dollar.

The firm’s director for diversified fixed income, Kathleen C. Gaffney, and diversified fixed income portfolio manager, Henry Peabody said that in addition to that the runaway inflation that many forecast in response to massive quantitative easing (QE) from central banks did not materialise.

“Therefore, we think that inflation is percolating, and could be a major headwind for income-focused investors. After all, inflation plays the role of the primary villain for bond investors,” they said.

Asked what was going to change, Gaffney and Peabody said they expected that rising fiscal spending and tax cuts could weigh on the dollar and the market’s inflation expectations moved higher, based on inflation break-even rates.

Also, with tariffs in the headlines, more companies in second-quarter earnings statements and calls were hinting at price increases.

Following this, they expected home prices to continue to move higher in the US, due to an ongoing lack of supply, particularly for starter homes.

“Finally, we think wage pressures are building in the US and that wages will rise,” they said.

Earlier this week, the Labor Department said US employment costs rose 2.8 per cent in the second quarter from the year-ago period – the biggest increase in about a decade. That’s another tailwind for inflation and is likely a reason why companies are confident they can pass along higher input costs to consumers.”