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January 2017

The return of inflation and growth?

Economic conditions in the U.S. have been improving and inflation has been trending upward. While stronger economic growth presents potential opportunities in select equity markets, investors may also consider protecting their assets from rising inflation by owning TIPS or commodities.

U.S. wage growth and core inflation

Source: BlackRock Investment Institute, Thomson Reuters, as of 12/14/2016

Donald Trump took the world by surprise when he won the U.S. election to become the 45th President of the United States. While it will be weeks or months before the new administration will be able to implement major initiatives such as tax or healthcare reform, markets are already responding to expectations that those policies will result in stronger economic growth. The U.S. equity market has rallied, yields have spiked, and the USD has strengthened. At the same time, a byproduct of those policies could be higher inflation and investors are once again focused on inflation expectations.

To be sure, there are still some unknowns with the new administration’s agenda and whether the policies pursued will receive Congressional support. But inflation has gradually picked up and there’s a probable chance the Fed may overshoot its 2% target irrespective of Trump’s policies, given an already improving U.S. economy, low unemployment, and increased wage growth (see graph above). Trump’s proposals to reduce taxes, repatriate assets, increase infrastructure spending, and pursue deregulation in many industries have the potential to increase economic and job growth, and with it, inflation. Whether they will pass and to what degree remains a game of wait and see.

Investors may want to consider the potential impact of the Trump administration policies on their portfolios. With respect to the possibility for higher growth, that means looking at the potential for a continued rotation out of bonds into stocks, and parts of the equity market that could benefit from Trump policies. Meanwhile, as a precaution, investors may want to explore adding inflationary hedges to their portfolios. While we anticipate inflation to rise from current levels, we expect inflation to settle at around 2.5% in the medium term.

Head of Investment Strategy for U.S. iShares
Investment Strategist for the iShares Investment Strategies and Insight group