Gyroscopic Investing

I'm curious how well stocks are expected to perform in the event of a hyper-inflationary scenario. From the information that I could find on Zimbabwe, the Zimbabwe Industrial Index at the beginning of 2005 was 2,191 points and at the end of 2007 it was 4,000,796. This suggests that stocks offer pretty good protection from inflation, unless there is more to it than that.

explodingdust wrote: I'm curious how well stocks are expected to perform in the event of a hyper-inflationary scenario. From the information that I could find on Zimbabwe, the Zimbabwe Industrial Index at the beginning of 2005 was 2,191 points and at the end of 2007 it was 4,000,796. This suggests that stocks offer pretty good protection from inflation, unless there is more to it than that.

Stocks tend to tread water during inflation. However it is very hard on companies and the slightest error could be disaster for them individually. The best strategy is to widely diversify against failure in any sector or individual company. There is a book called the Hyperinflation Survival Guide that discusses how companies in Latin America dealt with high inflation. It requires a lot of strategic planning and ability to quickly respond to changing situations.

Given the choice, I'd want a mix of hard assets and stocks during a hyper inflation to hedge my bets.

Capital-intensive businesses have the hardest time keeping up with inflation. They may get a windfall at the beginning of the inflationary spiral as their old loans turn to dust, but as soon as they need new financing for large capital expenditures, they're S.O.L. as the only new loans available are expensive and ultra-risky adjustable-rate or commodity-linked loans. Businesses that can transfer this risk to somebody else should do best :-)

Businesses that fail to write a "monetary correction" clause into their receivables contracts are soon driven into the ground by clever customers. Many mom-and-pop operations meet this fate.

In my recollection from living through Brazilian hyperinflation, overall stock indexes do quite well - far better than money market accounts in some years, slightly worse in others. I was a kid at the time and had money in savings accounts, but I read the financial press and it was my dream to invest in the stock market some day. I never forget the week one stock went up 70% when my savings account was only yielding 10% per month.

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I would be careful about referencing Zimbabwe for the performance of stocks in a hyperinflation. Zimbabwe is not an industrialized nation. It is decidedly third world. I don't think I could regard their stock market's performance as indicative of how things would go in an industrialized state. Better to look at other historic examples like Germany, and Argentina.

Ad Orientem wrote: I would be careful about referencing Zimbabwe for the performance of stocks in a hyperinflation. Zimbabwe is not an industrialized nation. It is decidedly third world. I don't think I could regard their stock market's performance as indicative of how things would go in an industrialized state. Better to look at other historic examples like Germany, and Argentina.

With the capital flight that has occurred in Zimbabwe in recent years, I wonder how much real wealth still exists in the country to even be represented in a stock market.

Capital flight is probably the biggest risk to a stock investor during a period of hyperinflation.

Ad Orientem wrote: I would be careful about referencing Zimbabwe for the performance of stocks in a hyperinflation. Zimbabwe is not an industrialized nation. It is decidedly third world.

Zimbabwe is NOW a third world nation.  30 years ago it was not the equivalent of Germany, but it was further from 3rd world then than it is from Germany now.  That's what happens when the government abandons the rule of law and implements redistributive policies.

Hyperinflation tends to be a collapse of the currency, but also includes a lot of things outside the currency itself.  If a hyperinflation coincided with massive confiscation from the government and/or a collapse of our system of private property, I definitely would not be wanting to hold stocks.  That said, I'm not 100% sure how tightly hyperinflations are correlated with other forms of societal/government collapse.

moda0306 wrote: Hyperinflation tends to be a collapse of the currency, but also includes a lot of things outside the currency itself.  If a hyperinflation coincided with massive confiscation from the government and/or a collapse of our system of private property, I definitely would not be wanting to hold stocks.  That said, I'm not 100% sure how tightly hyperinflations are correlated with other forms of societal/government collapse.

To reinforce what MT said, hyperinflation is a symptom of capital flight, which happens to peripheral economies (Germany, Argentina, Zimbabwe, Banana Republics, etc.), not core economies (Rome, UK, US).  In a core economy, deflation will occur instead.  I suppose, hypothetically, hyperinflation could occur to the U.S. dollar if everyone dumped it for another medium of exchange, but it has never happened that way historically.  We may find out in the years ahead.

MachineGhost wrote:

moda0306 wrote: Hyperinflation tends to be a collapse of the currency, but also includes a lot of things outside the currency itself.  If a hyperinflation coincided with massive confiscation from the government and/or a collapse of our system of private property, I definitely would not be wanting to hold stocks.  That said, I'm not 100% sure how tightly hyperinflations are correlated with other forms of societal/government collapse.

To reinforce what MT said, hyperinflation is a symptom of capital flight, which happens to peripheral economies (Germany, Argentina, Zimbabwe, Banana Republics, etc.), not core economies (Rome, UK, US).  In a core economy, deflation will occur instead.  I suppose, hypothetically, hyperinflation could occur to the U.S. dollar if everyone dumped it for another medium of exchange, but it has never happened that way historically.  We may find out in the years ahead.

Germany in the 1920's was not a peripheral economy. It was a highly industrialized first world nation. What crushed the German Mark was a series of factors including...
1. The loss of the First World War
2. The crushing war debt and reparations imposed by the Treaty of Versailles which under the terms of the London Ultimatum of 1921 required an annual payment of 2 billion Gold Marks (as defined under the pre-war gold standard) plus the value of 26% of Germany's GDP in specie or a gold backed foreign currency. Denomination of sovereign debt in a foreign currency is a key element in many hyperinflations.
3. Germany began aggressively buying foreign currency with Marks in 1921 which accelerated the collapse of the Mark.
4. After a series of conferences in early 1922 failed to reach an agreement to ameliorate war reparations the German Mark collapsed.
5. In January 1923 France occupied the German Ruhr and expropriated its share of reparations in the form of goods, principally coal.
6. By which time all public confidence in the Government and its money was destroyed and the German economy was reduced to barter or foreign currency only exchange..