The importance of stock picking in an inflationary environment

Woman on her laptop thinking to herself.

Woman on her laptop thinking to herself.

The explosion of strong inflation has made things more complex in the investment world. But stock picking specific ASX shares could begin to deliver good returns again, going by recent moves of the Future Fund.

Before now, the Australian government’s sovereign wealth fund was investing in low-cost index funds, according to reporting by the Australian Financial Review. It had terminated its mandates with fund managers. But, the $200 billion Future Fund is now returning to stock pickers once again.

A key reason for the strategic change is that “central bank policies no longer dominate equity market returns, and stock pickers can truly add value”, according to the AFR’s reporting.

Future Fund backs stock picking

The Future Fund’s CEO Raphael Arndt told the AFR:

There’s a richer universe for active management. Equity market returns were largely responsive to central bank policies around either interest rate or quantitative easing or liquidity settings.

We continue to think that strategy makes sense at some level, but it’s also true that markets have become more sophisticated around those decisions, so you need a more dynamic approach.

As economic conditions change in the real world, then some companies will be in sweet spots where they can take advantage of that.

Other ones won’t be or will come under margin pressure because of more populist politics and more aggressive regulation.

This move will include the Future Fund investing in stock picking domestic small-cap funds as well.

Are economic conditions getting better?

The Future Fund is worried about the impacts of inflation and how this could impact economic growth. These could be good conditions for stock picking. Arndt said:

We still are concerned about a stagflation. In fact, it looks more likely than not that we’ll have a stagflation.

However, while interest rates have risen, they are still below the rate of inflation, so cash isn’t providing a strong enough return yet, Arndt continued:

Unfortunately, it’s still negative in a real sense. We felt like cash was expensive to hold because of inflation, so we have reduced that cash holding as a result of that.

The Australian Bureau of Statistics (ABS) has just delivered its quarterly inflation numbers, which showed that the consumer price index (CPI) rose by 1.4% in the three months to 31 March 2023, while over the 12 months, it showed a 7% rise.

Tertiary education and gas and other household fuels saw two of the largest gains, with rises of 9.7% and 14.3%, respectively.

So, while inflation has reduced from the most recent quarter – CPI annual inflation was 7.8% in the three months to December 2022 – it is still strong.

Time will tell whether inflation settles back towards the Reserve Bank of Australia (RBA) goal of 3% quickly or if it stays elevated for longer than hoped.

The post The importance of stock picking in an inflationary environment appeared first on The Motley Fool Australia.

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Motley Fool contributor Tristan Harrison has no position in any of the stocks mentioned. The Motley Fool Australia’s parent company Motley Fool Holdings Inc. has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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