I’m concerned about the purchasing power of money over the long term. When I think about protecting wealth, I don’t only mean getting through the next stock-market pullback. I also mean what that wealth will actually buy in ten or twenty years.
That’s easy to lose sight of because a market sell-off is very visible. You can open an account and see the number going down. The loss of purchasing power doesn’t always show up that way. The number can stay the same while the things you want to do with it become more expensive.
In my view, that deserves much more attention than it tends to get.
Getting the dollars back is one question
Think about what happens with a conventional government bond. You lend money, receive interest and expect to get the principal back when it matures. Those payments are made in the currency of the bond.
There are two questions there. Will you receive the money you were promised? And what will that money be worth when you receive it?
A government meeting its obligations answers the first question. It doesn’t settle the second. If prices have risen faster than the return, the investment can repay exactly as promised while leaving the investor with less purchasing power.
That’s the concern I’m talking about when I use the word debasement. I don’t mean the dollar has to collapse overnight. I mean a currency can buy less over time, and the effect can become substantial over a long enough period.
I’m particularly interested in that question when governments have large debts to service. Inflation can reduce the real value of a fixed debt, but the same process reduces the real value of the payments received by the person who owns it.
Of course, the starting yield matters. Inflation might turn out lower than expected, and a bond can deliver a positive return after inflation. I’m not saying every bond fails to protect purchasing power. I’m saying the promise of repayment and the protection of purchasing power are separate things.
Protection depends on what goes wrong
The other question is what an investment does when the rest of the market is under pressure. There’s a tendency to assume that stocks and bonds will always balance each other out. That depends on the conditions.
If the economy is weakening and inflation is under control, investors may expect lower interest rates. That can support bond prices while weaker earnings put pressure on stocks.
But if inflation is the problem, higher rates can put pressure on both. BIS research has documented how the inflation environment changes the relationship between stock and bond returns. The diversification that worked in one period can become much less helpful in another.
And there’s a further distinction between holding a bond to maturity and needing to sell it along the way. Fixed-rate bonds can fall in price when market interest rates rise. Someone who needs the money before maturity may have to accept that lower price.
This is why I think the word “safe” needs a bit more explanation. Safe from a short-term price decline? Safe from not being paid back? Safe from losing purchasing power? Those are different concerns, and an investment can address one while leaving another open.
I don’t think there’s a way to remove every risk. There are trade-offs, and sometimes the things that address a long-term concern can be uncomfortable to own in the short term.
What I do think is important is being clear about the problem. I’m concerned about periodic falls in the market, but I’m also concerned about the quieter, ongoing loss of purchasing power. Protecting wealth means taking both seriously.
