Q: What about inflation-linked government bonds in the United Kingdom and Germany? What are your thoughts on those? And what do you think about the inflation risk in the Eurozone? [I recently wrote about why investors concerned about inflation may want to consider avoiding Treasury Inflation-Protected Securities (TIPS) and opting instead for other inflation hedges]
A: Inflation-linked bonds in general look expensive. This is partly a function of the fact that the Fed is not the only central bank engaged in unusual monetary policy. For example, the Bank of England, by some measures, has been even more aggressive. So overall, the inflation-linked bond market looks pricey, though TIPS look the worst of all.
As for my outlook for international inflation, I don’t see much evidence of that except for in a few emerging markets – like India, Turkey and maybe Brazil. And Europe has probably even less of a risk of experiencing near-term inflation than the United States for three reasons:
1.) The European economy, as everyone knows, is struggling even more than the US economy and isn’t likely to post much growth this year.
2.) Unemployment, particularly in southern Europe, is rampant in the region, and it’s very hard to expect much wage inflation when you’ve got unemployment as high as 25%.
3.) One sector of the US economy that looks better than its European counterpart is financials. The European banks still need to deleverage and repair their capital. As a result, I expect credit creation in the United States to accelerate well beyond anything we’re likely to see in Europe. And without credit growth, we won’t see much of an accelerating money supply.
Russ Koesterich, CFA, is the iShares Global Chief Investment Strategist.