For months investors have feared a period of stagflation and the latest round of inflation figures would suggest this fear is closer to becoming a reality. Stagflation is characterised as high inflation and low or no economic growth. Investors would be wise to look back at previous periods of stagflation to spot the winners and losers.

World Bank chief economist Indermit Gill last week told Reuters: ‘Six months ago we were really concerned about a slowing recovery and very high prices of some commodities, and now I think we are much more concerned about a generalised stagflation, which brings back really bad memories of the mid-1970s and the lost decades.’

The 1970s were characterised by an energy crisis, corporates hurt by higher costs and lower demand, and increased unemployment. Strikes were prevalent as workers felt hard done by. Sounds familiar? Many of these elements are motion today.

Back then, some of the best places to have made money were shares in energy companies and real estate owners. Gold was also a strong performer, yet this year the precious metal has not lived up to expectations. Last week gold fell to $1,654 per ounce, its lowest level in more than two years.

One argument is that gold is suffering because of growing competition from higher-yielding investments. For example, central banks are pushing up interest rates which lifts yields on bonds and returns on cash are improving. However, historically gold has not always fallen when interest rates go up.

Equity markets have struggled this year and that’s directly linked to rates going up and a gloomier economic outlook. Investment bank Berenberg says bull markets need support from strong corporate earnings or liquidity, or preferably both. Neither are currently in play. ‘Tighter money and earnings downgrades suggest extending headwinds will continue in the coming months,’ it comments.

Being more cautious in the current environment might be wise and companies with defensive elements – i.e. their goods and services are in demand regardless of the economic environment – are natural places to look.

There are plenty of these types of companies on the UK stock market, which goes some way to explaining why the FTSE 100 has been the third best performing stock market index in the world year to date with ‘only’ a 2% loss, also helped by having lots of commodity producers benefiting from higher prices.

The best performing major index this year is Brazil’s Bovespa (+4.9%) followed by Mumbai’s S&P BSE 100 (+2.4%), whereas the S&P 500 index in the US is down nearly 19%.

The financial sector theoretically benefits from rising interest rates, yet investors need to balance potential rewards with the risks. Against the opportunity to make bigger margins and generally being well capitalised, banks risk a rise in bad debts during weaker economic periods.

There are a lot of factors which could move markets, so it pays to stay on top of the moving parts. This news story and this feature provide more details on the key issues that matter.

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