In times of inflation, which may soon be upon us, thoughts turn to what tends to retain its value as prices rise. That often means focusing on real, or tangible, assets. If that is the way markets turn, it would constitute a major sea change. For most of this century, including the ill-fated dot.com boom of 2001, the best returns came from investing in companies with strong intangible assets, mostly in the growing digital area.
But as Charles Hugh-Smith comments, the massive amounts of debt being created by banks and government, along with the money printing by the central banks (quantitative easing), is creating “phantom "assets" based on exponential increases in leverage. This is leading to a gap between essential tangibles and fantasy.
“Real scarcity separates phantom intangible assets from real assets. Phantom intangible assets are now the overwhelming majority of what's laughably called ‘assets.’
“We inhabit a fantasy world in which scarcity has been banished by the gods of globalized markets and phantom assets built on sandcastles of leverage are the most valuable assets on the planet. Global stocks are now worth $115 trillion, woo-hoo.”
Hugh-Smith is wrong to imply that global stocks are intangible; the share prices are backed by tangible assets to varying degrees (the measure of it is called net tangible assets).
But he is right about the excessive debt and money printing, which is creating “hyped faith in a fantasy world in which all tangible scarcities are magically turned to abundance by central bank money creation and low interest rates, and a splash of technocrat pixie dust: carbon taxes, windmills and drones flitting about.”
Phantom assets are not in “free fall” as he suggests, at least not yet. But there are deep problems in the financial system. “Monetary and fiscal stimulus is skyrocketing to keep the travesty of a mockery of a sham "prosperity" from collapsing into a putrid sinkhole of failed financial farce.”
How would an investor go about thinking about investing in tangibles? According to Wilson, focusing on real assets typically refers to investments in unlisted real estate and infrastructure. Physical commodities (such as gold) and agriculture-based assets (such as timberland and farming) are also considered real assets.
“What is the role of real assets within diversified portfolios? A defining characteristic of real assets is that they are ‘hard’ or ‘tangible’ assets. They tend to preserve ‘real’ value in inflationary environments and serve as an effective diversifier within a balanced portfolio, due to typically lower correlations to traditional financial assets (equities and bonds).
“While real assets have a significant history within institutional multi-asset portfolios, the ability for private investors to access real asset investment opportunities has grown significantly.
“The decision to add real assets to a portfolio depends on an investor’s return objectives, risk tolerance and liquidity preferences. However, we believe an allocation to real assets can potentially enhance a diversified portfolio’s risk/return characteristics.
“In addition to helping lower portfolio volatility, we believe real assets can provide a relatively attractive income stream, and attractive potential capital gains. Prospective real asset returns are, in many cases, looking attractive compared to listed equity exposure, particularly in risk-adjusted terms.
“In an environment characterised by both very low government bond yields, unprecedented monetary and fiscal stimulus, and a heightened degree of inflationary risk, we expect the cash flows associated with real asset income streams to become even more sought-after over the medium-term.
“While there is still ongoing debate around the short-term versus longer- term impact of the pandemic on consumer and business behaviour, progressive global re-opening should restore real asset cashflows, particularly for the highest-quality assets. At present, a number of real asset sectors are still trading at a discount to long-term valuations. This is likely creating opportunities for skilled asset managers and for the end investor.”
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