NEW YORK – Inflation does not discriminate. Just as he squeezes everyone’s wallet, he beats on almost every investment in a retirement account.
Shares were shaky this year, and the S&P 500 fell more than 10 percent from its record at one point, largely due to inflation concerns. Bond prices have also fallen. Before the recent jump in gold due to Russia’s invasion of Ukraine, the metal, which had a reputation as a guardian of inflation, was the worst year in six years, although inflation rose to its highest level in a generation.
The reality is that there is no perfect textbook on how to invest in a world with high inflation. But many on Wall Street see areas of the market that could withstand better than others if not fully successful.
That means a turnaround for investors accustomed to years of low inflation that hasn’t greatly worsened their incomes, said Gargi Pal Chaudhuri, head of iShares ’investment strategy, America, investment giant BlackRock. “Looking ahead, I think the level that used to be 1.5 to 2 percent is likely to be closer to 3 percent, and you need to start thinking about where you can move,” she said.
This is not to say that investors need to start daily trading on their retirement accounts after a long-term buying and retaining strategy has worked so well for years. But they may want to shade their portfolios in certain areas, including parts of the stock and bond markets that may indeed benefit from inflation. Here are some of the options:
BONDS ARE LESS THREATENED BY INFLATION
Bonds should be a safe part of any person’s portfolio. But if inflation is high, the fixed payments they will make in years to come will buy fewer things.
Expectations continue to rise as to how many times the Federal Reserve will raise interest rates this year to slow inflation, while consumer prices in January are 7.5 percent higher than a year earlier. As rates rise, newly issued bonds pay more, and bonds that are already in bond fund portfolios suddenly look less attractive, forcing them to lower their prices. The Vanguard Total Bond Market Index has already lost 4.2 percent this year, as of Thursday.
Losing money on bonds can be a shock, but investors should not give them up, Chaudhuri said.
“After all, bonds still give you that ballast,” she said. “They are still the ultimate diversifier that will continue to operate in an environment where stocks fall significantly.”
Higher rates tend to hit harder on the longest-term bonds because they fix investors for a long time at lower rates. Short-term bonds may offer some protection.
The U.S. government is offering some bonds that protect against rising prices. When an investor buys inflation-protected securities, also called TIPS, the principal amount increases over time and falls along with the consumer price index. The same is true of interest payments based on this principal amount. The downside is that TIPS still offers a negative return, with the 10-year TIPS recently being around negative 0.50 percent.
Another type of government bond, called I-bond, can be more profitable. It pays interest, which consists of two parts: one, which rises and falls along with inflation, which is updated twice a year, and the other, which is set when buying a bond. The i-bonds available now pay nothing on this second installment, but the first is so high that they currently pay a consolidated annual rate of 7.1 percent. However, these bonds also have limits and cannot be redeemed during the year. Investors also lose three months of interest payments if they cash in for up to five years.
GOODS THAT CAN SHINE
Some commodities have shown good results during periods of high inflation over the past decades. Surprisingly, gold is not always one of them.
Last year, its price fell by about 4 percent, even as inflation accelerated rapidly. And this lasted until early 2022, before fears of Russian aggression against Ukraine led to growth.
“Once inflation is already high, the hedging power of gold isn’t as strong as anti-inflation,” said Rich Weiss, chief investment officer for multi-asset strategy at American Century Investments.
This may be because conventional Fed drugs against high inflation – higher interest rates – can damage gold. If bonds pay more in interest, investors may be less willing to put their money into gold that pays them nothing.
Other goods have stronger track records. “It’s almost tautological,” Weiss said, because rising oil and other commodity prices are often one of the main causes of inflation spikes.
Some on Wall Street offer to consider investments that track a wide range of commodities, such as some specialty ETFs, although they may have higher costs than equity funds and bonds.
ACTIONS THAT GROW WITH INFLATION
If oil and other commodity prices rise along with inflation, so are the prospects for the companies that produce them. Therefore, several strategists suggest focusing, in particular, on energy reserves.
In the S&P 500, energy stocks rose more than 22 percent this year as the overall index fell just over 8 percent.
Other areas of the market that look relatively less expensive are also likely to be the best rates in the world with high inflation and rising rates, say strategists from UBS Global Wealth Management. Stocks that look expensive, such as large technology stocks after their strong multi-year period, fueled by low interest rates, are more likely to suffer more.
This year, financial stocks have not been hit as hard as the rest of the market because higher long-term rates are raising expectations of higher lending returns. But even there the risk remains. Banks tend to make the most money when they can borrow money cheaply at short-term rates and issue them at more expensive long-term rates. If this gap closes, they can be tuned in to the pain.
Stocks in emerging markets have also performed well in past cases of high inflation, in part because many of these companies are commodity producers. They also look cheaper than the US stock market, which has been the dominant force in the world for many years.
“COVID has not allowed us to physically travel abroad,” said Weiss of American Century, “but you definitely want to start traveling abroad with your assets.”