Webcasts

Making Sense of Inflation, Interest Rates, and Market Highs

Featuring Gerard O’Reilly, PhD, Co-Chief Executive Officer and Co-Chief Investment Officer

Feb 15, 2022

Topic

How should investors think about the potential impact of inflation and rising interest rates? What do markets reaching new highs suggest for the months ahead? In a recent webcast, Dimensional Co-CEO and CIO Gerard O’Reilly spoke about ways investors can position themselves in an environment where prices, rates, and markets are rising.

Positioning for Inflation (Excerpt length: 1:13)

We had a lot of talk about inflation in 2021 and inflation was higher than expected in 2021. A few things that I often mention when inflation comes up is first look to markets. What are the markets predicting for the next five years? About 2 1/2 to 3%, if you look at breakeven inflation rates in the US. That doesn't mean that we won't get higher than that rate of inflation over the next five years. The markets forecast the future but nobody can predict the unexpected, but you can plan for the unexpected. So I say, if you want to take care of inflation, structure yourself to outpace it by investing in globally diversified stocks and bonds. They've had good returns when inflation has been strong or when it's been low. Or you can hedge it which there are many different asset categories around that allow you to hedge inflation. Well, and I think that framework you have on inflation is incredibly helpful, right? Get real clear on your goal. Are you really trying to outpace it as an investor? Or are you trying to hedge the unexpected? Once you know your goal, you got the tools to accomplish that objective. Exactly.

Inflation can be a consideration for investors, and interest rates often draw attention, too. But widely watched barometers like the rates controlled by the US Federal Reserve are only a few among a vast sea of inputs that drive market returns.

How to Think about Rate Increases (Excerpt length: 1:02)

Now you're right. There's a lot of different interest rates out there. You have governments, you have corporates, different credit qualities, you have different currencies of issuance, you have different durations. All told there's over 500 interest rates that are gonna drive the returns of any fixed income portfolio over any particular time period. And if you're thinking about, I just focus on the Fed and what the Fed does and if I can predict what the Fed is going to do, that will help me navigate these fixed income waters. I don't think that's a plausible solution. If you look back over the past 40 years over that time period, about 1/6 of the months or 1/7 months, Fed has raised the fed funds rate. And about 40% of the time to 50% of the time, the long term rate has gone down when the short term rate has gone up because of the fed funds rate. So there's lots of rates out there that are gonna impact your portfolio.

The S&P 500 hit dozens of closing records in 2021 and ended the year near a high. Have markets peaked? The webcast addressed how stocks reached current levels and the difficulty of making predictions about tomorrow based on where markets are today.

On Indices at Records and Growth Stock Valuations (Excerpt length: 1:24)

The other theme that you mentioned, market highs, of course, after a good run in markets you always get questions about that. We have plenty of material to discuss those topics. Few big themes that I always mentioned there when it comes to market highs, one is around what have the averages been historically where we are today. Historically, 13, 14, 15 for the US market, today the Russell 3000 is about 24, give or take P/E ratio. Those P/E ratios don't tell you much about future returns, in particular, they don't tell you that expected equity premiums are negative, so stocks are still expected to outperform bonds. Number two, the level of precision from any prediction from market valuations about future equity returns is so low, you really don't have a good chance of using those to time the markets. So don't worry about timing the markets. And number three, specific to this time period is that when you look at why those valuations are high, a lot of it is because of high valuations on growth. If you look at the Russell 1000 growth, the P/E ratios on that is around 35 so about 40 to 50% higher than the market's P/E ratio. Whereas value is much lower and value as we'll see later on, are closer to their long pull averages.

More From This Series

Value and Small Cap Investing: No Time Like the Present

Disclosures

The information in this document is provided in good faith without any warranty and is intended for the recipient’s background information only. It does not constitute investment advice, recommendation, or an offer of any services or products for sale and is not intended to provide a sufficient basis on which to make an investment decision. It is the responsibility of any persons wishing to make a purchase to inform themselves of and observe all applicable laws and regulations. Unauthorized copying, reproducing, duplicating, or transmitting of this document are strictly prohibited. Dimensional accepts no responsibility for loss arising from the use of the information contained herein.

“Dimensional” refers to the Dimensional separate but affiliated entities generally, rather than to one particular entity. These entities are Dimensional Fund Advisors LP, Dimensional Fund Advisors Ltd., Dimensional Ireland Limited, DFA Australia Limited, Dimensional Fund Advisors Canada ULC, Dimensional Fund Advisors Pte. Ltd., Dimensional Japan Ltd., and Dimensional Hong Kong Limited.

UNITED STATES: Dimensional Fund Advisors LP is an investment advisor registered with the Securities and Exchange Commission.

CANADA: These materials have been prepared by Dimensional Fund Advisors Canada ULC. They are provided for educational purposes only, should not be construed as investment advice or an offer of any security for sale and do not represent a recommendation of any particular security, strategy or investment product. Commissions, trailing commissions, management fees, and expenses all may be associated with mutual fund investments. Unless otherwise noted, any indicated total rates of return reflect the historical annual compounded total returns, including changes in share or unit value and reinvestment of all dividends or other distributions, and do not take into account sales, redemption, distribution, or optional charges or income taxes payable by any security holder that would have reduced returns. Please read the prospectus before investing. Mutual funds are not guaranteed, their values change frequently, and past performance may not be repeated.

This material is not intended for Quebec residents.

AUSTRALIA: This material is issued by DFA Australia Limited (AFS License No. 238093, ABN 46 065 937 671). This material is provided for information only. No account has been taken of the objectives, financial situation or needs of any particular person. Accordingly, to the extent this material constitutes general financial product advice, investors should, before acting on the advice, consider the appropriateness of the advice, having regard to the investor’s objectives, financial situation and needs. Investors should also consider the Product Disclosure Statement (PDS) and the target market determination (TMD) that has been made for each financial product either issued or distributed by DFA Australia Limited prior to acquiring or continuing to hold any investment. Go to dimensional.com/funds to access a copy of the PDS or the relevant TMD. Any opinions expressed in this material reflect our judgement at the date of publication and are subject to change.

NEW ZEALAND: This material is issued by DFA Australia Limited (incorporated in Australia, AFS License No. 238093, ABN 46 065 937 671). This material is provided for information only. This material does not give any recommendation or opinion to acquire any financial product or any financial advice product, and is not financial advice to you or any other person. No account has been taken of the objectives, financial situation or needs of any particular person. Accordingly, investors should, before acting on the advice, consider the appropriateness of the advice, having regard to the investor’s objectives, financial situation and needs. Investors should also consider the Product Disclosure Statement (PDS) and for the Dimensional Wholesale Trusts the target market determination (TMD) that has been made for each financial product or financial advice product either issued or distributed by DFA Australia Limited prior to acquiring or continuing to hold any investment. Go to dimensional.com/funds to access a copy of the PDS or the relevant TMD. Any opinions expressed in this material reflect our judgement at the date of publication and are subject to change.

WHERE ISSUED BY DIMENSIONAL IRELAND LIMITED OR DIMENSIONAL FUND ADVISORS LTD.
Neither Dimensional Ireland Limited (Dimensional Ireland) nor Dimensional Fund Advisors Ltd. (Dimensional UK), as applicable (each an “Issuing Entity,” as the context requires), give financial advice. You are responsible for deciding whether an investment is suitable for your personal circumstances, and we recommend that a financial adviser helps you with that decision.

NOTICE TO INVESTORS IN SWITZERLAND: This is an advertising document.

WHERE ISSUED BY DIMENSIONAL IRELAND LIMITED
Issued by Dimensional Ireland Limited (Dimensional Ireland), with registered office 25 North Wall Quay, Dublin 1, D01 H104, Ireland. Dimensional Ireland is regulated by the Central Bank of Ireland (Registration No. C185067). Information and opinions presented in this material have been obtained or derived from sources believed by Dimensional Ireland to be reliable, and Dimensional Ireland has reasonable grounds to believe that all factual information herein is true as at the date of this document.

Dimensional Ireland issues information and materials in English and may also issue information and materials in certain other languages. The recipient’s continued acceptance of information and materials from Dimensional Ireland will constitute the recipient’s consent to be provided with such information and materials, where relevant, in more than one language.

WHERE ISSUED BY DIMENSIONAL FUND ADVISORS LTD.
Issued by Dimensional Fund Advisors Ltd. (Dimensional UK), 20 Triton Street, Regent’s Place, London, NW1 3BF. Dimensional UK is authorised and regulated by the Financial Conduct Authority (FCA). Information and opinions presented in this material have been obtained or derived from sources believed by Dimensional UK to be reliable, and Dimensional UK has reasonable grounds to believe that all factual information herein is true as at the date of this document.

Dimensional UK issues information and materials in English and may also issue information and materials in certain other languages. The recipient’s continued acceptance of information and materials from Dimensional UK will constitute the recipient’s consent to be provided with such information and materials, where relevant, in more than one language.

RISKS
Investments involve risks. The investment return and principal value of an investment may fluctuate so that an investor’s shares, when redeemed, may be worth more or less than their original value. Past performance is not a guarantee of future results. There is no guarantee strategies will be successful.

Fixed income securities are subject to increased loss of principal during periods of rising interest rates. Fixed income investments are subject to various other risks, including changes in credit quality, liquidity, prepayments, call risk, and other factors. Municipal securities are subject to the risks of adverse economic and regulatory changes in their issuing states.

JAPAN: Provided for institutional investors only. This document is deemed to be issued by Dimensional Japan Ltd., which is regulated by the Financial Services Agency of Japan and is registered as a Financial Instruments Firm conducting Investment Management Business and Investment Advisory and Agency Business. This material is solely for informational purposes only and shall not constitute an offer to sell or the solicitation to buy securities or enter into investment advisory contracts. The material in this article and any content contained herein may not be reproduced, copied, modified, transferred, disclosed, or used in any way not expressly permitted by Dimensional Japan Ltd. in writing. All expressions of opinion are subject to change without notice.

Dimensional Japan Ltd.
Director of Kanto Local Finance Bureau (FIBO) No. 2683
Membership: Investment Management Association of Japan

FOR PROFESSIONAL INVESTORS IN HONG KONG.
This material is deemed to be issued by Dimensional Hong Kong Limited (CE No. BJE760) (“Dimensional Hong Kong”), which is licensed by the Securities and Futures Commission to conduct Type 1 (dealing in securities) regulated activities only and does not provide asset management services.

This material should only be provided to “professional investors” (as defined in the Securities and Futures Ordinance [Chapter 571 of the Laws of Hong Kong] and its subsidiary legislation) and is not for use with the public. This material is not directed to any person in any jurisdiction where (by reason of that person’s nationality, residence, or otherwise) the publication or availability of this material are prohibited or which would subject Dimensional Hong Kong (including its affiliates) or any of Dimensional Hong Kong’s products or services to any registration, licensing, or other such legal requirements within such jurisdiction or country. When provided to prospective investors, this material forms part of, and must be provided together with, applicable fund offering materials. This material must not be provided to prospective investors on a standalone basis. Before acting on any information in this material, you should consider whether it is suitable for your particular circumstances and, if appropriate, seek professional advice.

Unauthorized copying, reproducing, duplicating, or transmitting of this material are prohibited. This material and the distribution of this material are not intended to constitute and do not constitute an offer or an invitation to offer to the Hong Kong public to acquire, dispose of, subscribe for, or underwrite any securities, structured products, or related financial products or instruments nor investment advice thereto. Any opinions and views expressed herein are subject to change. Neither Dimensional Hong Kong nor its affiliates shall be responsible or held responsible for any content prepared by financial advisors. Financial advisors in Hong Kong shall not actively market the services of Dimensional Hong Kong or its affiliates to the Hong Kong public.

SINGAPORE
This material is deemed to be issued by Dimensional Fund Advisors Pte. Ltd., which is regulated by the Monetary Authority of Singapore and holds a capital markets services license for fund management.

This advertisement has not been reviewed by the Monetary Authority of Singapore. This information should not be considered investment advice or an offer of any security for sale. All information is given in good faith without any warranty and is not intended to provide professional, investment, or any other type of advice or recommendation and does not take into account the particular investment objectives, financial situation, or needs of individual recipients. Before acting on any information in this material, you should consider whether it is suitable for your particular circumstances and, if appropriate, seek professional advice. Dimensional Fund Advisors Pte. Ltd. does not accept any responsibility and cannot be held liable for any person’s use of or reliance on the information and opinions contained herein. Neither Dimensional Fund Advisors Pte. Ltd. nor its affiliates shall be responsible or held responsible for any content prepared by financial advisors.