Jhe Consumer Price Index report was released today, rising 0.6% for the month of January and pushing annual inflation to 7.5%, the highest gain in 40 years. Despite records, Nancy Davis, founder of Quadratic Capital Management, warned in a communication to ETF Trends that the current inflation environment has been achieved by unconventional means in a way that monetary tightening by the Federal Reserve will not. can’t change.
Consumer prices have risen dramatically over the past year, while workers’ real incomes rose just 0.1% in January when calculating inflation. Core inflation rose 6%, according to CNBC, with every CPI reading defying analysts’ expectations.
Image source: CNBC
“With another surprise jump in inflation in January, markets continue to worry about an aggressive Fed,” said Barry Gilbert, asset allocation strategist at LPL Financial. “While things may start to look up from here, market concern over potential over-tightening by the Fed will not go away until there are clear signs that inflation is on the mend. under control.”
Markets are now calculating and bracing for aggressive interest rate hikes, but Davis points out that this is not just a matter of inflation driven by typical inflationary pressures alone. Today’s inflation started primarily as part of supply chain constraints, a problem that no amount of Federal Reserve policy can solve.
“Many of the factors pushing inflation higher appear to be caused by supply chain constraints and fiscal stimulus and could naturally go away on their own. However, these factors take much longer than expected to slow. At the same time, commodity prices are rising and further fueling inflation,” Davis said.
Davis warns that advisers and investors need to watch the rate markets and not just the CPI to guide themselves when judging inflation. The consumer price index does not provide a complete picture and, given the Fed’s forecast, Davis believes that the rates market is actually priced on disinflation.
“Investors should not take the Fed’s ability to control inflation for granted. Inflation-linked assets can provide diversification and could be useful in a portfolio if inflation is not as transitory as most people expect and if the reduction in monetary support from the Fed is not not enough to bring inflation down,” Davis said.
Inflation hedge with IVOL
Davis is the portfolio manager of the Quadratic Interest Rate and Inflation Volatility Hedging ETF (IVOL) of KFAFunds, a KraneShares company. IVOL is designed to double hedge against an increase in fixed income volatility and/or an increase in inflation. The fund also seeks to maximize increases in the yield curve, caused either by rising long-term interest rates or falling short-term interest rates; both are tied to large stock market declines.
IVOL is the first of its kind in active and passive options and provides access to the OTC bond options market, the mechanism it uses for long-term interest rate volatility. The fund invests in a combination of US Treasury Inflation-Protected Securities (TIPS) of any maturity, which are US government bonds whose principal increases with inflation.
It also invests in long options directly linked to the shape of the interest rate swap curve in the United States, which steepens when the difference between the exchange rates of long-term debt instruments and the Short-term debt instruments rise, flatten as the spread narrows, and reverse. when the spread is negative.
IVOL is actively managed by Quadratic Capital Management, an alternative asset management firm experienced in the options and volatility markets. He plans to invest less than 20% of the fund in option premiums and seeks to buy options with an expiry date of between six months and two years.
IVOL has an expense ratio of 1.05% and manages approximately $2.1 billion in assets.
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