Federal Reserve Vice Chairman Richard Clarida is anticipating a reduction in inflation going forward but has said that if inflation-driven prices continue next year, it would cause serious issues for the central bank, reports the Wall Street Journal.
The surprise spikes in inflation have been driven by pandemic economics, intense demand created from reopening, and the subsequent supply chain collapse. Clarida has indicated that the majority of fellow policy makers, including himself, believe that the higher-than-anticipated inflation being experienced should ease as supply and demand eventually level out.
Still, the 4.4% increase in inflation over last year was well over the “moderate overshoot” of 2% that the central bank ultimately wants. “I would not consider a repeat performance next year a policy success,” said Clarida.
The Fed’s long-term goal is to run slightly above 2% inflation to account for the years that it ran under, but the framework was put into place in August of 2020, before supply chain woes really began. Clarida is one of the main creators and drivers of the Fed’s current inflationary policy, and as such, his comments are closely watched for indications of how the central bank will move.
It remains to be seen how the central bank will approach potential rate increases next year once bond tapering is complete.
IVOL Offers Inflationary and Volatility Hedge
The Quadratic Interest Rate Volatility and Inflation Hedge ETF (IVOL) from KFAFunds, a KraneShares company, is designed to have a twofold hedge against an increase in fixed income volatility and/or an increase in inflation. The fund also seeks to maximize on yield curve increases, either brought about by long-term interest rates increasing or short-term interest rates falling; both are tied to big equity market declines.
IVOL is the first of its kind in active and passive options and offers access to the OTC fixed income options market, the mechanism it uses for long interest rate volatility. The fund invests in a mix of U.S. Treasury Inflation-Protected Securities (TIPS) of any maturity, which are U.S. government bonds whose principal amounts increase with inflation.
It also invests in long options that are directly tied to the shape of the U.S. interest rate swap curve, which steepens when the spread between longer-term debt instrument swap rates and shorter-term debt instruments grows larger, flattens when the spread grows smaller, and inverts when the spread is negative.
Options are purchased up front with a premium in the OTC market, which typically has greater flexibility in terms between the buyer and seller, but there are fewer protections than on an exchange and no daily price fluctuation limits. Counterparties do not have to post variation margins, and there is no possible extra cash outflow or future liability for the fund under the options. The only risk is the premium that is paid up front, as well as IVOL’s options contracts being open to counterparty risk, a risk of non-performance by an options counterparty.
IVOL is actively managed by Quadratic Capital Management, an alternative asset management firm with experience in the options and volatility markets. It expects to invest less than 20% of the fund in option premiums and seeks to purchase options with a time-to-expiration between six months and two years.
IVOL carries an expense ratio of 1.05% and has $3.6 billion in assets under management.
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