Sticky fears about sticky inflation

Risk.net survey finds investors are not yet ready to declare victory on inflation – with good reason

Key points Summary Q&A

• Inflation ranks third in Risk.net’s Top 10 investment risks, even though US CPI fell to 2.7% (from 6.4% four years ago).
• Inflation has been a top‑three risk in every survey year, and investors warn government debt, threats to Fed independence and rising populism could further fuel runaway prices.
• Sticky inflation can break expected asset correlations, making bonds and equities move together and reducing diversification, which complicates risk management for multi‑asset portfolios.

These summaries are generated by an LLM, but edited by humans.

Inflation can be notoriously persistent. For investors, the risk of inflation seems equally so.

Readers may pause when they see that the risk of rising prices placed third in this year’s iteration of Risk.net’s Top 10 investment risks – our annual ranking based on interviews with buy-siders. After all, inflation in developed markets has been falling and is projected to fall further. The US CPI print on January 13 was 2.7%. When we published our first Top 10 list four years ago, US inflation was 6.4%.

Judging by what economists say, the short-term outlook for inflation is nothing to fear. Look back at what investors have been saying, though, and it’s clear they see ample reasons to be concerned.

Inflation has been one of the top three risks in each of the four years the survey has run. Only geopolitical risk featured as often. What’s more, three of this year’s other top risks – government indebtedness, Federal Reserve independence and the rise of populist politics – feed into and fuel the likelihood of runaway prices.

 

Indebtedness, for example, may give rise to looser monetary policy. Fed independence plays a critical role in anchoring long-term inflation expectations. Populism is likely to give rise to more of the former and less of the latter.

The past four years of survey results illustrate how inflation has evolved from a largely theoretical risk to something deeper and more alarming.

Buy-siders that spoke to Risk.net in 2023 worried that inflation would prove hard to stamp out, primarily because inflation had proven hard to stamp out in the past.

A year later, Risk.net’s top risks list included a public debt crisis for the first time. It has featured in each year since. Investors began to express unease about the interplay between inflation and government indebtedness, noting that politicians might one day prioritise low interest rates over stable prices.

“The only way out of this rising burden of debt relative to GDP is smaller deficits – or surpluses – a high growth rate, or low real interest rates,” a hedge fund chief investment officer told Risk.net at the time.

The first two would be hard to achieve, he said. As a consequence, governments could be forced to pursue policies of financial repression. That’s to say, they might encourage – or maybe coerce – central banks to hold bond yields down through unconventional means.

One of the key problems the US faces is its debt. One of the ways out of that is financial repression

Florian Ielpo, Lombard Odier Investment Managers

In 2024, the tone was theoretical. This year, Fed independence emerged as a top concern for investors, making our list in sixth position. Events of recent days suggest reality has indeed fully caught up.

Details emerged over the weekend of a US Department of Justice investigation into Fed chairman Jerome Powell, the most recent in a series of moves seemingly designed to pressurise the Fed to bend to executive influence.

“We are seeing a stream of attacks on the Fed to make sure the Fed shows a higher tolerance for inflation,” says Florian Ielpo, head of macro at Lombard Odier Investment Managers, speaking to Risk.net this week.

“One of the key problems the US faces is its debt,” Ielpo says. “One of the ways out of that is financial repression. Basically, you make sure your central bank shows greater tolerance for inflation.”

Other steps in recent days from the Trump administration are intended to address affordability but may stoke inflation in the longer-term, says Kaspar Hense, portfolio manager at BlueBay Asset Management. 

Trump has said he instructed the government-sponsored enterprises Fannie Mae and Freddie Mac to buy $200 billion in mortgage bonds. He has also stated his intention to cap credit card interest rates at 10% for a year. The details of how either initiative would work remain unclear.

Market participants responded to these moves, and to the administration’s action against Powell, by betting on a weaker dollar, steeper US Treasury yield curves and higher gold prices — which ultimately will add to inflationary pressure, Hense says.

A new headwind

As for why investors fear inflation so much, its persistence in the rankings owes to more than just being bad for fixed income.

Periods of high inflation disrupt key asset correlations that investors rely on, typically causing bonds and stocks to move together. At a portfolio level, this leaves investors unable to rely on the diversification they are used to and forces them to cut the levels of risk they take. The effect was felt in 2022 and 2023, for example, among risk parity funds.

“It’s not about losing money on some bonds or a bit of a headwind on equities – whether you get a few more rate hikes or fewer cuts,” a portfolio manager at a UK asset management firm told Risk.net during this year’s survey.

“It’s the idea you get back into a world where things move together. That complicates risk management for multi-asset portfolios because you can be less confident of your diversification benefits.”

In equity markets, investors have become used to relying on the Fed to cut rates ahead of any looming market downturn, another portfolio manager said. Sticky inflation threatens to stop the Fed doing so and therefore comes with some negative implications for equities too.

In the wider economy, meanwhile, consumer sentiment suffers when prices seem like they’re rising too fast.

 

Other long-term themes in Risk.net’s Top 10 draw attention, too. The speed of the rise of artificial intelligence stands out, as does the climb up the list of private markets – missing from top 10 last year, and fourth in this.

Less obvious, but no less notable, is how the range of risks has changed. In 2023 and 2024 the Top 10 list included several relatively narrow risks that a year later were gone: risks in energy markets, the risk of a Covid resurgence, a real estate crash, too much regulation or a refinancing wave.

Five of the threats identified in 2023 have yet to repeat. In the past two years, by contrast, the risks seem to have become more intertwined and more persistent. Only two of the risks this year have never featured before.