UK shares are in a holding pattern right now, as investors wait to see what will happen with the post-lockdown recovery. Optimists believe that once people are released to go spending again, the global economy will spring into life. Especially when all the trillions of dollars of stimulus pumped out during the pandemic catches fire.
Pessimists, of course, take a different view. They fear the stimulus has been overdone, particularly US President Joe Biden’s $1trn recovery plan, which comes on top of the $900bn lined up before Christmas. This could whip up inflation and force central bankers to increase interest rates, thereby choking off the recovery.
Fears of inflation are growing amid a sharp rise in US bond yields. Right now, 10-year US Treasuries yield 1.62%. That’s low by historical standards, but means they’ve tripled since May last year. Bond investors expect inflation, and are demanding higher interest to cover the risk.
I’m banking on UK shares
Inflation will be bad news for bonds too. As yields rise, prices fall. Bonds pay a fixed rate of interest, which is less attractive when prices are rising.
Higher inflation would also be bad news for cash. Savings accounts already struggle to keep up with today’s consumer price inflation rate of 0.7%. Imagine if inflation was 3%, 4% or 5%? True, savings rates will increase if the Bank of England lifts base rates, but there’s likely to be a major lag when the real value of your savings will be falling at an even faster rate than today.
I believe UK shares offer a much better way of protecting your wealth against the ravages of inflation. That’s why I’d ignore bond funds and the Cash ISA, and buy UK shares for this year’s ISA portfolio instead.
Right now, the Treasury is predicting GDP growth of 4.4% this year, followed by an incredible 7.3% next year. That will be a huge boost for UK shares, because if people are spending more, businesses will be making more money.
Inflation fears grow
Britons are sitting on an estimated £1.2trn lockdown cash pile, according to asset management group Janus Henderson. Supermarkets, clothing stores, travel firms and the leisure & hospitality sector should reap the benefit when people splurge. As will the big banks and oil companies, which are heavily represented on the FTSE 100.
However, inflation isn’t all good news for UK shares. If it races past 5%, businesses will be reluctant to invest, as they may not get a real return. Higher rates also increase borrowing costs. Utility bills and other household expenses will rise. Ultimately, this could squeeze consumer spending, especially if wages fall behind
Value stocks do better when inflation is high, growth stocks do worse. Hence the recent sell off in Tesla and others tech growth heroes. So, I might rebalance my UK shareholdings by adding some value.Â
Raging, uncontrolled inflation would be bad news for everybody. UK shares still look like the best place to be though.