Inflation is one of those economic dangers that everyone knows about, but few know how to combat when it decides to rear its ugly head. The basic definition of inflation is an increase in costs in products and services linked to our daily way of life. Now, inflation isn’t that bad if incomes rise along with rising costs, but since this rarely happens, inflation often indicates a decline in consumers’ purchasing power. There is an example that almost all of us who depend on cars are familiar with: the cost of gasoline.
When we head to the local gas station to put gas in our cars, that gasoline has been refined from crude oil, perhaps the most volatile and traded commodity in the world. Historically, gas prices move in lockstep with crude oil prices. If you paid $2.50 a gallon last week, but crude rose a few dollars a barrel in the meantime, you might pay $2.75 a gallon this week. That’s a 10% raise and you probably didn’t get a 10% raise to absorb that price increase, hence the problem with inflation.
Fortunately, there are ways for investors to not only protect their portfolios from inflation, but also to profit when inflation kicks in. Let’s take a look at some of the options.
ETFs: the battlefield of inflation protection
There are many clear advantages to investing in commodity exchange-traded funds (ETFs), particularly as a way to add this asset class to your portfolio without the risk of buying futures contracts outright. Well, commodity-based ETFs are also a great way to profit from inflation. We’ve already highlighted how rising oil prices are a sign of inflation, and there’s an ETF that can help you take advantage of higher crude prices. The US Oil Fund (USO), which invests in crude oil futures and derivatives contracts, trades like a stock and is an ideal way for investors to benefit from rising crude prices without having to buy shares in a company. oil company Oil stocks often lag behind crude price fluctuations and that can make them frustrating investments.
Of course, we cannot forget about gold. The yellow metal has been the inflation fighter of choice for tons of investment experts for decades. The idea is that when inflation is on the rise, stocks and other assets falter, and this increases the demand for gold. There is also an ETF here to help you make a profit. The SPDR Gold Shares ETF (GLD) actually owns physical gold bullion and is one of the largest gold owners in the world. Investing in gold can be expensive, not to mention risky, if you’re playing the futures market, so GLD is one avenue investors should consider when looking for inflation protection. Remember that gold is all about supply and demand, so if inflation is rising and there are doubts about the global gold supply, gold prices will almost certainly skyrocket.
Bond ETFs: A Worthwhile Alternative
Many investors think that investing in bonds is boring. Bonds rarely have the volatility of stocks or commodities, but they should be part of any portfolio looking to be well balanced. Of course, bonds are great ways to generate low-risk income, which is why many financial advisors recommend increasing bond holdings for retirees and older investors.
In the form of Treasury Inflation-Protected Securities (TIPS), the world of bonds offers investors a robust, low-risk way to protect their portfolios from the specter of inflation. There are a couple of corresponding ETFs to give investors exposure to TIPS. The iShares Barclays TIPS Bond ETF and the SPDR Barclays Capital ETF are just two of the TIPS ETFs bond investors may want to look at.
The interest paid to the TIPS investor rises and falls with inflation, so take that into account before investing in these securities. In other words, if inflation is slowing and you hold TIPS, you will receive lower interest payments. Remember that if you hold a TIPS ETF to maturity, the return you receive will be adjusted for inflation and this may have an adverse impact on your overall returns.
Don’t be a victim of inflation
In the past, there weren’t many options available to retail investors to combat inflation. Inflation was something of a smile-and-bear scenario, but as ETFs have proliferated, so have low-risk alternatives for investors looking for ways to beat inflation. There are a variety of other ETFs that we haven’t discussed that can also be used to combat inflation and help properly diversify your portfolio. If bonds aren’t your thing, take a look at some of the other metal ETFs and don’t forget the agriculture-based ETFs that focus on soft commodities like corn, soybeans, and grains.
Inflation sucks. That’s an indisputable fact, but there are tools out there to help investors not only find a bit of protection from the inflation storm, but also profit from it.