Veteran commodities trader: "Second wave" of inflation concerns emerging, 1970s inflation surge may repeat

A former commodity trader has warned that an inflation pattern similar to that of the 1970s may be brewing, and that dealing with a "second wave" of inflation may not be easy.

Although US stocks are less than 1% away from hitting new highs, this trader believes that there is one issue that may keep investors restless over the next year—the resurgence of inflation. This warning comes from Fred, a former energy trader, current investor, Substack blogger at "Fred's Corner," and longtime observer of commodities.

In short, Fred is concerned that inflation may see a "second wave" rise similar to the 1970s. He admits that the current environment is not identical to that time: Fifty years ago, the US faced an oil supply shock, whereas today the global crude supply is still relatively abundant; furthermore, the end of the gold standard also "affected gold, that shining metal, in a unique way."

Fred compared the performance of US stocks since June 2015 with the inflation cycle beginning in 1967 in the 1970s. He analyzed that the previously regarded "upper limit" of inflation at 2% may now have turned into the "lower limit". Fred believes this change has multiple causes; the resurgence of inflation is no coincidence.

Fred stated,

"Market environments are always changing, but certain periods echo each other."

First, he pointed out that rising international tensions, along with trade barriers such as tariffs, are pushing prices higher. Some countries are ideologically distancing themselves from globalization and encouraging domestic manufacturing reshoring, which weakens the cost advantages brought by comparative advantage and thus drives inflation up.

But in Fred's view, the most influential factor may be "fiscal largesse". Take the US as an example: this year's budget deficit is expected to reach 6.5% of GDP; even Germany, long known for fiscal prudence, is brewing spending plans that may approach €1 trillion (about $1.2 trillion). With supply systems still constrained, such fiscal stimulus could significantly boost overall demand and thereby drive prices higher.

Fred did not assert that this round of "second wave" inflation will return to the extreme highs seen at the end of 2021. However, he emphasized that inflation doesn't need to reach those heights to deliver a severe shock to financial markets.

Bearish on long-term bonds; equities are a "decent safe haven"

So, how should investors respond? Fred believes that in an inflationary environment, long-term bonds may be the worst-performing asset class. In comparison, short-duration bonds are more attractive, such as two-year US Treasuries currently yielding around 3.5%.

Equities remain "a decent safe haven," but sector selection is crucial. He said:

"Commodity producers are obviously good inflation hedges, as are infrastructure and industrial sectors. However, valuations must be reasonable, and when there are supply tightnesses in the commodity market, asset accidents (such as mining disasters) can be a 'double blow' for some producers."

He also points out that the S&P 500's current dividend yield is only 1.15%, near historical lows.

"Given current valuation levels, allocating some yield-bearing cash assets is not a bad idea."

Additionally, allocating so-called 'hard assets'—especially real estate—is also crucial. Fred states that real estate price increases are highly correlated with official inflation indicators, and their average yields often make up for the official numbers' understatement of true inflation.

The best inflation hedge remains commodities

However, in Fred's view, the best inflation hedge in today's portfolio remains commodities themselves. (He also admits he has a certain preference, having worked in commodities trading.)

He cautions that investors shouldn't just focus on crude oil—even though, given prevailing bearish sentiment, the 2026 risk-reward for oil prices isn't bad—nor solely on precious metals; industrial metals like copper and agricultural products should also be considered.

But he also warns that holding typical commodity funds comes with costs, as futures contracts must be rolled over continuously. At present, the Bloomberg Commodity Index's annualized roll cost is about 2.9%.

Fred reveals his current portfolio allocation as: 65% equities (of which 5% is hedged with one-year put options); 20% cash and short-term bonds; 20% commodities.

But since about a quarter of his stock holdings are commodity-related (including oil producers, fertilizer manufacturers, broad industrial metal miners, and lithium-related investments), his total commodity exposure is actually close to 35%.

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