How to increase your portfolio’s ability to withstand economic turmoil.
Just as the entire world has seen the suffering and growing humanitarian crisis that has resulted from Russia’s invasion of Ukraine, the global economy is feeling its effects as well. Slowing economic growth and rising prices, especially at the gas pump and grocery store, are the most concrete examples of how geopolitical concerns affect individuals around the world.
You may have already noticed how large-scale turmoil associated with world events translates into volatility within your investment portfolio. Understanding these relationships and their results can help you maintain the best returns possible in your portfolio during uncertainty, even as performance lags in stocks and other asset classes.
Coping with increased fuel prices
The cost of crude oil skyrocketed in response to the invasion and the resulting sanctions against Russia, which, in turn, accelerated the increase in gasoline prices. In the first two weeks after the invasion, average gas prices in the U.S. increased by 17 percent. Earlier in the year, fuel costs were already on the rise in the U.S., up 23 percent from January 1 to March 9.
In an interview on March 7, Chief U.S. Economist for Capital Economics Paul Ashworth projected gas prices of $4.50 per gallon by April, with even higher prices likely to follow. He noted that it would take time for the cost of gasoline to go down, even when crude oil prices stabilize. Chief Economist of Moody’s Analytics, Mark Zandi, predicted an increase in average gas prices above $5 per gallon in the wake of a projected 20 percent rise in crude oil costs up to $150 per barrel.
Russia currently produces 10 percent of the global demand for crude oil. Although the U.S. does not rely on Russian oil, the commodity markets are global, meaning price fluctuations in one part of the world impact the price we pay elsewhere. Furthermore, increasing oil prices have historically correlated with inflation and underlying issues with traditional financial assets and commodities. Not only do higher gas prices have a greater impact on those less wealthy, but they also signal uncertainty and, therefore, tightening in nearly all financial markets.
Facing rising food costs and shortages
While American households will pay an average of $2,000 more to fill their vehicles this year, the country is also experiencing unprecedented food cost inflation. Together, Russia and Ukraine represented 28 percent of worldwide wheat exports and 18 percent of global corn exports in 2020. The chart below demonstrates a direct correlation between the start of the Russian invasion and the increase in the price of these commodities, with wheat futures up 35 percent and corn up 26 percent just since mid-January.
If one thing is certain in times of geopolitical uncertainty, it’s the value of farmland as an enduring asset. As the prices of commodities rise, crops tend to see some of the highest increases. Even as sales in other sectors lag, global food demand continues, creating powerful protection for your portfolio if you have invested in this area. We can see this effect in the rise in food prices during the high-inflation period of the 1970s, with an unprecedented increase of 200 percent from 1972 to 1979. Costs rose by 400 percent for wheat, 300 percent for corn, and 200 percent for beef.
Combating consumer inflation
Economists predict these rising commodity prices may accelerate the rate of inflation, which was already at 7.5 percent in February 2022 and reached 7.9 percent in March 2022, the highest since 1982. Just as we see the recession of the 1970s and early 1980s as a benchmark of our current economic crisis, we can look to farmland’s historical performance as a reflection of its positive correlation to inflation. In other words, when inflation goes up, so does the value of agricultural land.
Looking back, stock market investors found that their portfolios remained relatively flat from 1970 to 1979. Over the same period, U.S. farmland skyrocketed from an average of $197 to $737 per acre, representing a 14 percent annual return for those astute investors who were able to see the opportunity at the start of the decade.
Data from the National Council of Real Estate Investment Fiduciaries (NCREIF) supports farmland’s positive correlation to inflation. In fact, NCREIF found that the price of farmland rose by more than 8 percent in periods of 3 percent inflation, 12 percent at 4 percent inflation, and nearly 16 percent at 6 percent inflation.
Hedging against stock market volatility
Additional red flags for economic uncertainty at the beginning of 2022 included fluctuating yields on government bonds and a yield curve inversion, signaling a potential recession. Significant stock market slumps also suggest we could be entering bear market territory. In fact, already this year, the Nasdaq composite decreased 20 percent and the S&P 500 declined 10 percent from their most recent peaks.
While most sectors are down, energy and commodities have been outperforming in the current investment landscape. For example, iTrades S&P GSCI Commodity-Index Trust (an exchange-traded fund in this sector) has risen in value by nearly 50 percent in the first 10 weeks of 2022.
If commodities continue to increase in value, stocks will likely continue their corresponding decline. In addition to rising food prices, consumers can expect to pay more for both finished products and raw manufacturing materials. At the same time, the U.S. may see inflation hit 9 percent by this summer, according to UBS economist Alan Detmeister.
During periods of uncertainty, investing in hard assets like farmland appeals to top-tier investors like Bill Gates and Warren Buffett because of its low volatility and high returns. When we look at another challenging historical period, the housing crisis of 2008, we see that farmland outperformed both the Dow Jones Industrial Average and the S&P 500 from 2004 through 2012.
With the pandemic lingering, the Russian invasion of Ukraine putting additional pressure on already surging consumer prices, and the Fed recently increasing interest rates, the economic outlook is shrouded in uncertainty. Farmland can serve as a stabilizing force in your portfolio, providing diversification and impressive yields as you wait out the current geopolitical and economic climate. Fill out the form below to learn more.