Peter Lynch: How to Invest During High Inflation

So we just got fresh inflation data a week or two ago and guess what? It showed that yet again the annual inflation rate has risen in the U.S. Inflation is now running at seven percent per year. We know that because of this inflation, Jerome Powell and the Federal Reserve are looking to raise interest rates three times this year, aka they're looking to put the clamps on the economy and slow business.

But of course, a natural outcome of raising interest rates is that businesses, and thus stock markets, tend to look less enticing, whereas super-safe government bonds start to look more enticing. That doesn't necessarily mean the stock market will go down, but a high interest rate environment certainly puts a lot more pressure on the stock markets than a low interest rate environment. This has been concerning investors; they've seen great gains over the past few years, but they're now worried that as interest rates go up, we won't see those gains continue and, in fact, we might see the opposite.

With inflation now tipping over seven percent, the doom and gloom narrative is really starting to catch on in the media, which just makes everything seem a million times worse. These days, it's pretty hard to avoid a big negative headline front and center on these news sites that isn't talking about inflation or interest rates or the Fed. But seeing all this talk, discussion, and worry about inflation and interest rates always brings me back to what Peter Lynch, the author of "One Up On Wall Street," said all the way back in 1994.

“No one can predict the stock market. They try to predict interest rates. I mean, if anybody could predict interest rates right three times in a row, they'd be a billionaire. Concerned? There's not that many billionaires on the planet. It's very, you know, I took logic; I had a syllogism and uh, studied these when I was at Boston College. There can't be that many people who can pick interest rates because there'd be lots of billionaires and no one can predict the economy.”

I had a lot of people in this room who were around in 1981 and '82 when we had a 20% prime rate with double-digit inflation, double-digit unemployment. I don't remember anybody telling me in 1981 about it. I didn't read, I studied all this stuff. I remember every time we had the worst recession since the Depression. So what I'm trying to tell you is it'd be very useful to know what the stock market is going to do, it'd be terrific to know that the Dow Jones average a year from now would be X, then we're going to have a full-scale recession, our interest rate is going to be 12%. That's useful stuff; you never know it though. You just don't get to learn it.

So I've always said if you spend 14 minutes a year in economics, you've wasted 12 minutes. I really believe that. I play that clip all the time whenever I feel like I'm being sucked into market prediction territory. I just go and watch that, and I love that clip because it really makes you realize that these market predictions and interest rate guesses are a constant in the world of the stock market. This is a lecture from 1994, and all of the talk back then was whether the stock market will crash and what interest rates will be. But did it matter?

I mean, have you ever taken a finance or economics class where they referred back to what the interest rates were in 1994 and how much it influenced the long-term performance of the stock market? No, because it was totally inconsequential. You know, back then the S&P 500 was at 460 points, but today it's at 4,600 points. It's funny that at the time that topic was being talked about as though it needed to be figured out or it could spell doom and gloom for investors. Today, we still talk about it in the exact same fashion; we're still talking about inflation and interest rates like the be-all and end-all of the markets.

So I hope you get the same feeling that I do after watching that clip. You know, it didn't matter back then, so it probably doesn't matter now either, not if you're in the market for the long term. Alan Greenspan's a very honest guy; he would tell you that he can't predict interest rates. He can tell you what short rates are going to do the next six months; try and stick them on what the long-term rate will be three years from now, and they'll say, "I don't have any idea."

So how are you, the investor, supposed to predict interest rates if even the Federal Reserve can't do it? I think that's a key message for investors. For all the investors worrying about inflation, interest rates, and a recession, just replay that clip a million times over. There are things that would be lovely to know, where the S&P 500 will be at in a year or what interest rates will be at in two years, but you just don't know that, and nobody does.

Yes, inflation might run rampant, and yes, interest rates might be hiked to 15%, yes, the stock market might tank 30%, but you won't know if or when that will happen. So as an investor, what you really need to do is you need to, as Peter Lynch said, you need to accept that the market is going to go down sometimes. You know, market declines happen.

No one predicted the pandemic; boom, it hit the U.S., and the market tanked 30% at the start of 2020. Tell me that series of events was going to occur in October 2019. Nobody knew that just a few months later their portfolio was going to be worth 30% less. So the thing to do as an investor is to accept that these events will occur and accept that they will catch you completely out of the blue. If you're at peace with those two things, then you can start to get in a better frame of mind as to how to approach your investing, and spoiler alert: it's to always maintain a long-term mindset.

Well, obviously the market's gone up tenfold since I stopped running Magellan, so you make more money on the upside. The market's been a lot higher in 10 years from now, 20 years from now, 30 years from now. Trying to predict the market is really a waste. I don't know what it's going to do; it can go down. When I ran Magellan, the market declined 10% or more nine times. The market, wow, I had a perfect record; I went down more than 10 every time. Whatever market went down, it went down more.

But over the long term, the upside is more than the downside. So you're going to say to yourself, "Do I need the money in the next month? Do I need money next year? Do I have kids going to college? I have a wedding coming up?" Then you're a bad investor. If you can keep putting money in your portfolio for 5, 10, 15, 20, 25 years, you should do well.

So there you go; the market goes down, you won't see it coming, and it will sting you at some point along your investing journey. So, with that in mind, what are you going to do? As Peter Lynch just said, if you're investing money that you need in the short term to make a quick buck in the market, then you're a fool. You know, if you're investing money you'll need to pay rent, if you're investing money you'll need for your kids' tuition, if you're investing money you need for the upcoming wedding, then you are a bad investor because the market might go down in the short term. Remember, we don't know when it's going to happen, and if it does happen to go down in the short term, then you're screwed.

But if you invest money you don't need and you keep adding to your portfolio periodically over 10, 20, 30 years, you should do very well. So at the end of the day, in Peter Lynch's eyes, the answer to the question: "How should you be investing during high inflation? How should we be investing during times where interest rates might go up a lot?" is we should approach it the same way we always approach investing.

We need to approach it rationally and not speculatively, know that bad stuff will happen sometimes. You know that you are going to cop it at some point, and that may be at a time when inflation runs hot and interest rates are hiked, or it could happen tomorrow at 2:41 in the afternoon. But who cares? Stay rational, stay focused on the long term, and that is the easiest solution to knowing you're going to do well investing in the market during these times.

But it's all about your investing temperament. Don't get caught up in the news; don't get caught up in the speculation; don't be influenced by fear or hype. So there's always something to worry about, and the key organ in your body in the stock market is your stomach, not the brain. If you can add eight and eight, and get reasonably close to 16, that's the only level of math you need to know. You don't need the area under the curve; remember that quadratic equation and integral calculus, and the area under the curve? I mean, whoever cared what was under the damn curve?

But you had to study this, you don't need this in the stock market. All you have to know is you're going to see; it's always going to be scary. There's always going to be something to worry about, and you just have to forget all about it, cut it all out, and own good companies. Own turnarounds, study them, and you'll do well, and that's all there is.

I'm ready for questions. So in conclusion, it's always going to be scary, there's always going to be something to worry about, but all you need to do is own good companies and adopt the long-term mindset, and all of a sudden what happens with interest rates, inflation, and short-term performance of the market really doesn't mean as much.

Honestly, I kind of wish Peter Lynch just kept going with that clip and said specifically what characteristics he likes to see in those great companies that help protect them in inflationary times. I think it would have been cool to actually hear it from the horse's mouth, from Lynch himself. But having studied other great investors over the past few years, a few points I've learned are that you want to look for companies that are simple enough for you to understand, ones that have competitive advantages and thus pricing power to be able to raise their prices and not suffer any consequences.

You also want to check the company's debt structure so that, for example, if most of their revenue is soaked up by interest payments, you don't want that interest expense to rise a lot if interest rates do. So checking fixed-rate versus variable-rate debt is always a good idea. But overall, guys, that is a selection of advice from Peter Lynch that hopefully gives you some context as to how to go about investing in times of inflation and when interest rates and the Federal Reserve are, you know, making news headlines every other day.

So hope you enjoyed the video. Leave a like on it if you did. If you'd like to learn more about Peter Lynch and the Warren Buffett style investing strategy, you can check out Profitful links down in the description below. If you wanted more new money content, short-form new money content, then check out New Money Clips as well. But guys, that will just about say I hope you really enjoyed the video, I hope you got something out of it, and I'll see you guys in the next video.