Inflation is at its highest level in about three decades, and while some experts believe this is a temporary surge, others are not so sure. And investors are very concerned that we will see a recession in the not-so-distant future if interest rates rise and consumer spending slows. So where should you put your money to prepare?
In this fool live Video clip, recorded on June 21, Fool.com contributor Matt Frankel, CFP, and Focus on industry Host Jason Moser discusses how bank stocks typically perform in inflationary environments, as well as during recessions.
Matt Frankel: TMF New Fool says, âWhat is the best type of investment I can make to protect myself against inflation and / or recession? Are financial actions the right way to go? I think Bank of America (NYSE: BAC), chase away (NYSE: JPM), Wells fargo (NYSE: WFC). Also, is now the right time to invest in these stocks or are they too expensive right now? “
No one can tell you if they are too expensive right now. If you ask Jason and I what bank stocks are going to do over the next two weeks, you’ll get two different answers, and they’ll both likely be wrong. I see a piano, I don’t see a crystal ball behind Jason. But generally speaking, financial stocks are a good way to hedge against inflation, if inflation does not get out of hand.
Jason Moser: Yes.
Frankel: If inflation gets to the point where the Fed has to raise rates multiple times, it usually spills over into higher rates on mortgages, credit cards, auto loans, things like that for banks. All three you mentioned have large credit card transactions that are directly tied to the federal funds rate.
Frankel: If the Fed raises rates by 50 basis points, credit card interest rates fall by exactly 50 basis points. They make more money in slightly inflationary environments, not when inflation is getting out of hand and people cannot afford and there is a lot of uncertainty. Then consumer demand drops and that’s not good. It really is a fine line, but banks tend to do well in slightly inflationary environments.
Frankel: When it comes to recessions, banks are bad investments. Banks are very cyclical in that sense, in terms of – you’ll see the demand for housing drop, you’ll see the demand for auto loans drop dramatically. You will see defaults increase dramatically during recessions. Banks can be bad investments during recessions, which is why they dipped so badly during the early part of the COVID pandemic. A lot of those normal recession things like lower loan demand, like higher defaults – people worried it would really hit them. In terms of inflation, I would say yes, but with a caveat. Recession, I would say financials are a no. If you want recession-proof services, things people will buy no matter what the economy, Apple does.
Moser: What do you think of insurance in a time like this?
Frankel: Sure. Yes. One of the reasons Berkshire Hathaway (NYSE: BRK.A)(NYSE: BRK.B) works in a recessionary environment. Geico – people keep paying for their auto insurance no matter what.
Frankel: Apple (NASDAQ: AAPL) – people buy their iPhones no matter what the economy does.
Moser: Yes. You are right. They do. The good thing is that they’ve found creative ways to fund these purchases. As if it wasn’t just âOK, pay me $ 950 or pay me $ 1,100â.
Frankel: Right. They will continue to innovate with this.
Moser: Yes exactly.
Frankel: Anything that sells things at a discount is a good thing in a recession. Walmart (NYSE: WMT) – Walmart was one of the few stocks that went up in 2008, and that’s because in tough times Walmart always has their loyal customers who come there because they have lower prices. But then, people who normally shop at high-end grocery stores and need to cut back on purchases will go to Walmart in the toughest times. So they really take advantage of it in the toughest times. Dollar stores are another. Convenience stores, things like that, that people need – these can actually benefit during tough times. But banks aren’t the best during recessions.
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