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Should investors fear a new outburst of inflation? Maybe so. A report on Friday showed a key measure of core inflation in the United States soared to 3.1 per cent in April, the highest level it has hit since the 1990s.

But then again, maybe not. Economists have warned for months that the reopening of Canadian and U.S. economies would result in a burst of inflation. Many forecasters expect the surge to be a passing affair.

That is the thing about inflation, though. It is slippery to forecast. What makes it dangerous right now is not so much its absolute level as its unpredictability.

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Consider the 1970s, the decade when inflation roared. Surging prices caused widespread pain not just because of the heights they hit, but because they jumped up and down more often than a hockey fan watching playoff overtime.

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The volatility made it impossible for companies and households to know what was coming next. In Canada, core inflation (that is, inflation with volatile food and energy prices stripped out) shot up to nearly 6 per cent at the end of the 1960s, fell below 2 per cent at the start of the 1970s, soared above 12 per cent after the first oil crisis in 1973, subsided below 7 per cent by 1977, then exploded back to nearly 12 per cent by the end of the decade.

No wonder consumers felt an unpredictable economy was jerking them around. It was. In such a volatile environment, there was no rational way for companies to set prices or for households to adjust their wage demands. Everyone was off balance.

How markets react to today’s inflationary boomlet will hinge on how well behaved it is. Nobody expects inflation to hit 1970s-style double digits, but some of the coming numbers may be unsettling by today’s tamer standards.

The analysts at Cornerstone Macro, for instance, expect headline U.S. inflation to hit 4.5 per cent in May. That would be more than double what was common prepandemic.

What really matters, though, is what comes next. If inflation fades over the next 18 months, as Cornerstone and others expect, it is unlikely to disrupt markets.

What would rock the economy would be signs that inflation is no longer under tight control.

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If inflation starts to gyrate, it could rattle investors even at levels far below those of the 1970s. Bond investors could start to hike the payoffs they demand and rising bond yields could pull money away from stocks.

Main Street, too, could lapse into a 1970s-style funk. “The rise in inflation is leaving a sour taste in people’s mouths,” Joel Naroff of Naroff Economics wrote in a note on Friday. He worries a sustained burst of inflation could dampen spirits and rein in future household spending.

So what should investors do? The first thing is not to panic. Most likely, this inflationary surge will pass. For now, the bond market seems scarcely rattled by the latest inflation numbers.

But investors who don’t want to take chances on an inflationary surprise may want to consider tilting away from high-growth tech stocks and toward cheaper alternatives.

Value stocks – ones trading at low multiples of their earnings and book value – shone in a recent analysis of past inflationary periods conducted by Aswath Damodaran, a professor of finance at New York University. He found value stocks did far better than growth stocks in the high inflation 1970s. Conversely, value stocks lagged behind their growth counterparts over the past decade, as inflation ticked in far lower than expected.

“For those value investors who have been wandering in the investment wilderness for the last decade, the silver lining in a return to higher inflation may be a tilt back toward” their favoured area, Prof. Damodaran wrote.

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Two areas to look at with particular interest are cigarette stocks and U.S. defence stocks, according to Lawrence Hamtil, a market analyst at Fortune Financial Advisors in Kansas City.

Both industries have shrugged off inflation in the past. During the 1970s, for instance, tobacco stocks prospered, producing real returns of more than 6.5 per cent annually while the broad market withered.

Defence stocks, too, have been rock steady, producing solid real returns every year since 1963 with only a brief exception around the end of the Vietnam War.

Tobacco stocks benefit from a key advantage during inflationary periods – the fact that most of the cost of a pack of smokes is now made up of taxes. This makes it relatively easy for producers to sneak through price increases on their relatively small part of the overall cost.

Defence stocks have their own inflationary buffer. Much of the industry’s work comes from government contracts that are long-term in nature and allow companies to pass on underlying price increases to the taxpayer.

“In sum, if inflationary pressures in the wake of the COVID pandemic prove to be more than transitory, investors might find safe havens in tobacco and defence,” Mr. Hamtil said in an e-mail last week.

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