How to Hedge Your Clients' Portfolios Against Inflation

In the short term, equities may be less affected by inflation; some companies might actually post positive performance if inflation gives them cover to raise prices. Longer term, however, high prices might discourage consumers from spending money, and higher interest rates may increase borrowing costs for companies. Both of these could negatively impact equity performance.

Nonetheless, some asset classes typically fare better than others in an inflationary environment.

Which Asset Classes Traditionally Yield More During High Inflation?

Gold and Other Commodities

For centuries, gold has been one of the most classic inflation hedges. (To some extent, other precious metals, such as silver, also fall into this category.) Gold is a physical commodity and is often considered a safe haven — after all, gold will always have value. All the same, gold has been more volatile in recent years and some experts express skepticism about whether it’s truly the inflation hedge many think it is.

Treasury Inflation-Protected Securities (TIPS)

One specific class of bonds is built for inflationary times: Treasury inflation-protected securities, or TIPS. These are pegged to inflation, so as the CPI rises, so does the value of your clients’ TIPS.

Real Estate

Another traditional inflation hedge, real estate is a physical store of value that has the ability to generate rental income — and this rental income may increase during periods of high inflation. One caveat: Housing prices are sensitive to interest rates, as high rates may affect consumer demand. Additionally, high interest rates can affect investors’ ability to borrow and therefore the overall demand for real estate investment.

Equities

Although inflation may hurt the stock market over the long term, some equities react differently than others. Stocks with high dividends tend to suffer during high inflation in much the same way as fixed income investments. Meanwhile, value stocks may have better pricing power to help them weather the storm, and companies with inelastic demand may find it easier to pass their increased costs on to consumers.

Cryptocurrency

One of the big selling points of cryptocurrency is its limited supply; no central authority can simply print more money. As a result, some investors view cryptocurrency as an inflation hedge. However, at least at this moment, Bitcoin’s value has been closely correlated to that of the stock market. Despite its anti-inflation underpinnings, many investors seem to be trading crypto as a speculative asset rather than a safe haven.

How to Discuss Inflation Investment Strategies With Your Clients

Many clients may be spooked, especially because inflation is a dominant news story. You might calmly explain the macroeconomic factors at play — supply chain hangups, pent-up demand, self-reinforcing cycles of consumer expectations — and the factors that could moderate the situation, such as monetary policy.

In the meantime, you can discuss clients’ long-term objectives and how their portfolios remain focused on their individual goals. Then, you might walk clients through your tweaks to their overall strategy to account for protection against inflation, such as reallocating a portion of their bond portfolio toward TIPS or pursuing investments in the real estate market.

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