From the FOMC Minutes (emphasis ours) –
…an increase in inflation expectations lowers short-term real interest rates, stimulating the economy.
We have been positioning our portfolio to take advantage of negative real interest rates or an economy where the rate of inflation is above interest rates. In our view, creating an inflationary environment is THE goal of the Fed. The classic argument goes something like this…
Increasing inflation while keeping interest rates low forces investors into riskier assets in order to beat the rate of inflation. The subsequent boost in stock prices elevates consumer confidence as 401ks rise in value. The ebullient consumer then begins to spend their hard earned cash instead of saving and…Voila…the economy is stimulated.
Whether or not this is the right policy is valid discussion for the classroom, but as investors we must trade the market we have, not the one we want. Therefore, we are buying US equities that have a high yield and will benefit from Fed induced inflation. The natural beneficiary of inflation are commodities and commodity stocks, however, many have already made tremendous moves.
One classic inflation hedge, lumber, has just begun to make its move and in our view represents an investment opportunity. Pension funds, endowments and insurance companies have traditionally flocked to timber during times of rising resource prices. Moreover, an inflation stimulated economy coupled with low mortgage rates makes buying a home an attractive option.
Our favorite play in this space is Plum Creek Timber (PCL). Plum Creek is the largest private timberland owner in the US and operates as a publicly traded REIT. The company has a dividend yield of 4.7% and is a pure play on rising timber prices.
Over the last week lumber futures on the CME have climbed considerably with several days reaching the maximum exchange price movement. However, the stock price of Plum Creek Timber has yet to rise in tandem. We view this as an attractive investment anomaly.
Disclosure: Accounts managed by Kanundrum Capital are long PCL.
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