X

Sign up for Equitymaster's free daily newsletter, The 5 Minute WrapUp and get access to our latest Multibagger guide (2017 Edition) on picking money-making stocks.

This is an entirely free service. No payments are to be made.


Download Now Subscribe to our free daily e-letter, The 5 Minute WrapUp and get this complimentary report.
We hate spam as much as you do. Check out our Privacy Policy and Terms Of Use.
Can stocks really beat inflation? - Views on News from Equitymaster
 
 
  • PRINT
  • E-MAIL
  • FEEDBACK
  • A  A  A
  • Nov 17, 2009

    Can stocks really beat inflation?

    Governments are busy fighting recession, central banks are busy printing money, and investors are busy getting scared of impending inflation. It is widely expected that with the current loose monetary policies being employed, those dreaded inflationary times may turn out to be just around the corner. The slow rise in the WPI (wholesale price index) in recent months has just been adding to the anxiety.

    So as investors scramble for shelter, the million dollar question these days seems to be "Which investments can provide the best shield from inflation?" Stocks are widely cited as one such asset class that can help achieve the above objective.

    But exactly how and why should stocks help beat inflation? Are they better than conventional fixed income (or debt) instruments in this respect? We will seek to address those very important question in this article.

    At the most basic level you will notice that companies in general tend to achieve higher returns on shareholders capital than pure debt instruments do. For example, a safe debt instrument may currently give you returns of about 7% to 8%. But a good company may consistently be able to achieve a return on equity 15% or more.

    However, it has been observed that companies are not usually capable of increasing that return on equity to higher levels in times of high inflation. But the fact would remain that, inflation or no inflation, you would usually get a higher return by being in a good business than in a debt instrument. So that's how equity returns can be potentially higher.

    But the big caveat here is the importance of entering the businesses at the right price. This is because if you enter at too high a price, you stand the risk of being at the mercy of the whims and fancies of the stock market as you would find yourself too far removed from the fundamentals of the business. Take for example the years 2007 and 2008. The consumer price index rose 6.3% in 2007 and 10.7% in 2008. Imagine if at the start of 2008, in January, you had decided to make your investment decisions. Expecting inflation to be high for the rest of the year you bought into the index at the time. Now, a little under two years later, let alone beating inflation, you would actually be staring at a loss on your investments instead.

    Additionally, as far as stock prices are concerned, another thing you should keep in mind is that governments usually increase interest rates to contain inflation. And a rise in interest rates usually imposes a downward pressure in stock prices as that decreases the present value of the future cash flows that are expected from the business.

    Also, people tend to shift to debt instruments when the gap between interest rates and return on equity for companies narrows, thus further causing stocks prices to go lower.

    All in all, keeping all the above in mind, it is probably the best strategy to invest in good companies for the long term when they are available at prices that make sense. And if you have indeed chosen your company wisely and have not paid too high a price to buy a part of it, you can indeed expect compounding to work in your favour and a great overall return over the long term. Inflation or no inflation, that would surely be a good position to be in!

     

     

    Equitymaster requests your view! Post a comment on "Can stocks really beat inflation?". Click here!

    2 Responses to "Can stocks really beat inflation?"

    sarath

    Nov 19, 2009

    Realy informative,especily for beginers.please deliver timely updates.

    Like 

    Manish Nagrecha

    Nov 17, 2009

    This is most simple but most profitable approach to build wealth in stock marker..Really people must know before starting investing in stock market.....

    Like 
      
    Equitymaster requests your view! Post a comment on "Can stocks really beat inflation?". Click here!
     

    More Views on News

    How to Ride Alongside India's Best Fund Managers (The 5 Minute Wrapup)

    Jun 10, 2017

    Forty Indian investing gurus, as worthy of imitation as the legendary Peter Lynch, can help you get rich in the stock market.

    Were You Lured By Mr Market's Bait? (The 5 Minute Wrapup)

    Aug 23, 2017

    Mr Market lured investors into believing they'd bitten into a crash. Did you take the bait?

    Deep State First (Vivek Kaul's Diary)

    Aug 23, 2017

    Nowhere was the darkness deeper than in the nation's capital. There, no light shone. No flicker of awareness...observation...learning...or reflection appeared.

    Why Hasn't Warren Buffett Rung the Bell Yet? (The 5 Minute Wrapup)

    Aug 22, 2017

    It's surprising Warren Buffett hasn't warned investors about the expensive stock market? Let us know why.

    Think Twice Before You Keep Money In A Savings Bank Account (Outside View)

    Aug 22, 2017

    Post demonetisation, a cut in bank savings deposits rates was in the offing.

    More Views on News

    Most Popular

    This Small Cap Can Drive Chinese Players Out of India (and Make a Fortune in the Process)(The 5 Minute Wrapup)

    Aug 17, 2017

    A small-cap Indian company with high-return potential and blue-chip-like stability is set to supplant the Chinese players in this niche segment.

    Dear PM Modi, India is Already Land of Self-Employed, and It Ain't Working(Vivek Kaul's Diary)

    Aug 21, 2017

    Most Indians who cannot find jobs, look at becoming self-employed.

    It's the Best Time to Buy IT Stocks(Daily Profit Hunter)

    Aug 16, 2017

    The IT Sector could be in an uptrend till February 2019. Are you prepared to ride the trend?

    5 Steps To Become Financially Independent(Outside View)

    Aug 16, 2017

    Ensure your financial Independence, and pledge to start the journey towards financial freedom today!

    Think Twice Before You Keep Money In A Savings Bank Account(Outside View)

    Aug 22, 2017

    Post demonetisation, a cut in bank savings deposits rates was in the offing.

    More
    Copyright © Equitymaster Agora Research Private Limited. All rights reserved.
    Any act of copying, reproducing or distributing this newsletter whether wholly or in part, for any purpose without the permission of Equitymaster is strictly prohibited and shall be deemed to be copyright infringement.

    LEGAL DISCLAIMER: Equitymaster Agora Research Private Limited (hereinafter referred as 'Equitymaster') is an independent equity research Company. Equitymaster is not an Investment Adviser. Information herein should be regarded as a resource only and should be used at one's own risk. This is not an offer to sell or solicitation to buy any securities and Equitymaster will not be liable for any losses incurred or investment(s) made or decisions taken/or not taken based on the information provided herein. Information contained herein does not constitute investment advice or a personal recommendation or take into account the particular investment objectives, financial situations, or needs of individual subscribers. Before acting on any recommendation, subscribers should consider whether it is suitable for their particular circumstances and, if necessary, seek an independent professional advice. This is not directed for access or use by anyone in a country, especially, USA or Canada, where such use or access is unlawful or which may subject Equitymaster or its affiliates to any registration or licensing requirement. All content and information is provided on an 'As Is' basis by Equitymaster. Information herein is believed to be reliable but Equitymaster does not warrant its completeness or accuracy and expressly disclaims all warranties and conditions of any kind, whether express or implied. Equitymaster may hold shares in the company/ies discussed herein. As a condition to accessing Equitymaster content and website, you agree to our Terms and Conditions of Use, available here. The performance data quoted represents past performance and does not guarantee future results.

    SEBI (Research Analysts) Regulations 2014, Registration No. INH000000537.

    Equitymaster Agora Research Private Limited. 103, Regent Chambers, Above Status Restaurant, Nariman Point, Mumbai - 400 021. India.
    Telephone: +91-22-61434055. Fax: +91-22-22028550. Email: info@equitymaster.com. Website: www.equitymaster.com. CIN:U74999MH2007PTC175407
     

    Become A Smarter Investor In
    Just 5 Minutes

    Multibagger Stocks Guide 2017
    Get our special report, Multibagger Stocks Guide (2017 Edition) Now!
    We will never sell or rent your email id.
    Please read our Terms

    S&P BSE SENSEX


    Aug 23, 2017 (Close)

    MARKET STATS