‘Equity markets poised to handle inflation’

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Equity markets in emerging and developed nations are well placed to shoulder the mounting pressure from rising levels of inflation as they are currently at attractive valuations, Citigroup says.

"Equities seem well placed to weather further increases in inflation as long as these are not extreme, as they are cheap on a historical basis and dividends are growing faster than inflation," a latest report from Citigroup Global Markets said.

Global inflation has been rising for about a year and is now at its highest level since 1999, but the biggest increases have come from the emerging economies, including India.

Country's Wholesale Price Index inflation soared to 42-month high of 7.61 per cent for the week ended April 26 on the back of rising prices of tea, spices fruits and vegetables and some manufactured products.

"Our economists have raised global inflation forecasts for 2008 to 4.3 per cent from 2.7 per cent since the middle of last year and the biggest revisions have occurred in the emerging world where the forecast for the year 2008 has increased to 7 per cent from 5 per cent," Citigroup added.

The report says there are a number of potential hedges such as -- equity, commercial property, infrastructure and commodities -- that generally compensate investors during times of inflation.

Global equities currently offer an attractive inflation hedge compared to the alternatives as historically equities have provided their best returns in periods when inflation was not too high and not too low.

Investors should, however, look for companies operating in industries that are the cause of inflation, following which they can get exposure to areas with rising pricing power.

Investors can hedge against inflation by looking for developed market companies that are selling into emerging markets (such as those in capital goods) or by buying emerging market companies directly, the report said.

Meanwhile, emerging markets would also get benefited, because some of the biggest beneficiaries of inflation are recycling their profits into these economies.

Food manufacturers, beverage, tobacco and food retail companies, infrastructure and utilities firms are some of the sectors that get substantial benefits from rising levels of inflation and these firms have little trouble passing on price increases to final consumers.