A moderate rise in Eurozone inflation is likely to boost telecoms companies and banks shares, according to James Sym, who runs the £1.3bn Schroders European Alpha Income fund.
The fund has returned 149 per cent over the past five years to date, compared with 100 per cent for the average fund in the IA Europe Ex UK sector in the same time period.
That return ranks the fund second from 73 funds in the sector in that time period.
Mr Sym said his view that global inflation, and particular European inflation, will pick up from here is at odds with the consensus view in the market, which he said is pricing an “extreme deflationary” scenario.
The fund manager is not expecting a “huge” move upwards in inflation.
He said the market pricing of those stocks that benefit from rising inflation is so pessimistic that any inflationary pressure will lead to a sharp move upwards in the valuations of those equities that perform well when inflation is rising.
He said: “There are pockets of tightness in the labour market in Europe, putting upward pressure on wages in those areas. And capacity utilisation – a measure of how full factories are - is at high levels.
"This gives companies the option of either putting up prices or expanding to meet demand. Both of these are reflationary.
"The return of inflation means investors will need a totally different portfolio from the one that has served them so well for the past few years. By the time this inflation shows up in the official CPI data, it will be too late. The market and asset prices will have already moved to reflect that.”
Two sectors on which he is particularly keen are telecoms and banks.
Telecoms company share prices suffered in the years of low inflation as it restricts those companies capacity to put prices up.
He said: “For the last five years, (telecoms businesses) have been investing very heavily but they are now starting to generate more cash. They’ve been building out 4G mobile networks and fibre to the home.
"This is expensive to do, but once the fibre is there then that technology should be sufficient for households’ data needs for the next 30 years. When these investments are completed, in around three years’ time, these stock should become cash-generating machines.
"It’s the reverse situation to that facing the brewing stocks. Telecoms stocks trade on all-time low valuations and look poised to reap the rewards of past investment. Meanwhile, the brewers are expensively-valued and facing increasing competition.”
Of bank shares he said: “Financials are among the chief beneficiaries of a pick-up in inflation. Bank stocks in particular are highly correlated with bond yields, meaning any pick-up in bond yields should benefit their profits and share prices.”
Banks are required to retain a certain portion of their capital in highly liquid assets such as bonds, so when bond yields rise, the returns banks earn from that portion of their balance sheet increases.
John Greenwood, chief economist at Invesco Perpetual, said “sentiment has got ahead of reality” in the Eurozone, with economic expansion already occurring at close to the full potential it can achieve.
He said he expects inflation to remain at below 2 per cent for the foreseeable future.
Jonathan Davis, who runs Jonathan Davis Financial Planning in Hertford, said he is preparing for higher inflation by buying emerging market assets.
david.thorpe@ft.com
