stocks – Memphis Flyer

Inflation has been in the news a lot lately. The high inflation rates of the last couple years have significantly eroded Americans’ purchasing power on a variety of goods and services. While inflation puts a strain on short-term spending and saving, it can be especially detrimental to long-term investment accounts if not properly planned for. Fortunately, a well-built investment portfolio can help counteract the effects of inflation. The following tips can help preserve and grow the value of your investments in the face of inflation.

1. Diversify your investments.

One of the most effective ways to position your portfolio to weather inflation is by investing in a diversified mix of asset types, such as stocks, bonds, real estate, and commodities. Different asset classes tend to perform differently during various stages of the market cycle. By maintaining a diversified portfolio, you reduce the risk of all your investments being impacted in the same manner at the same time.

2. Incorporate stocks.

Historically, equity returns have outperformed inflation over the long term. Investing in a diversified mix of large- and small-cap stocks, both domestic and international, can help provide you with the long-term growth potential you need to offset rising inflation and protect your portfolio’s purchasing power. By owning stocks, you own the companies raising the prices causing inflation.

3. Consider inflation-protected securities.

Consider incorporating an allocation to inflation-protected securities, such as Treasury Inflation-Protected Securities (TIPS). TIPS are government bonds that change value based on the Consumer Price Index (CPI) that can provide a hedge against inflation. They offer fixed-interest payments that can help your investment keep pace with rising prices.

4. Include an allocation to real assets.

Tangible assets, such as real estate and commodities, have historically helped hedge portfolios against inflation. Real estate investments have the potential to appreciate in value and generate rental income, which can rise with inflation rates. Commodities tend to retain value during inflationary periods.

5. Rebalance regularly.

When planning for inflation, it’s important to regularly rebalance your investment portfolio. Rebalancing is the process of selling off outperforming assets in order to invest in lower-performing assets. While this practice may seem counterintuitive, it helps prevent your allocation from drifting too far from your target investment ranges. Adding to a lower-performing asset can be difficult, but it’s important to remember the reasons it’s in the portfolio in the first place. This practice helps offset inflation because it prevents one asset type from dominating your portfolio and throwing off your risk exposure.

6. Review your portfolio.

Periods of high inflation often coincide with challenging market conditions. Economic factors are constantly changing and evolving, so it’s important to regularly review your investment portfolio. This practice will ensure your portfolio continues to align with your goals and remains positioned to weather the prevailing economic landscape.

Gene Gard, CFA, CFP, CFT-I, is a Partner and Private Wealth Manager with Creative Planning. Creative Planning is one of the nation’s largest Registered Investment Advisory firms providing comprehensive wealth management services to ensure all elements of a client’s financial life are working together, including investments, taxes, estate planning, and risk management. For more information or to request a free, no-obligation consultation, visit CreativePlanning.com.

What’s going on with bonds right now? Though 2022 has been a challenging year for fixed income, you might be surprised to learn that the death of bonds has been greatly exaggerated.

For context, bonds historically return less than stocks in the long run. From 1926 until the end of 2021, a large cap U.S. stock index returned over 10 percent a year, while a 5-year government bond index returned about 5 percent. Compounded over time, that is a massive difference.

Why would anyone want bonds then? They have two advantages over a 100 percent stock portfolio that you should care about — they are somewhat uncorrelated to stocks, and they tend to have less volatility.

Two things that are uncorrelated don’t automatically move in opposite directions — that would be negative correlation. With completely uncorrelated assets, the movement of one has no impact on the movement of the other one. This is something very desirable, since you don’t want everything in your portfolio going down at the same time.

Less volatility is also very much a good thing, meaning generally that bonds tend not to fluctuate up and down as much as stocks. This year is a great example — the Bloomberg U.S. Aggregate Bond index is down about 10 percent at the time of this writing. That’s one of the worst years on record for bonds, but it would only be a middlingly bad year for stocks. But isn’t this year a bad year for stocks, too? Let’s look at the big picture.

For a retiree, one of the worst things that can happen is a large portfolio drawdown in the years just before and after retirement. A crash just before retirement might force a delay to retirement plans. Worse, a crash just after retirement could dramatically change retirement lifestyle as assets are spent down while their prices are depressed.

We tend to allocate more to bonds around retirement because our best hope for bonds is that in a stock market downturn bonds will likely either go down less or even go up some.

You might be surprised to learn that is working, even this year. Looking at our portfolios and also target date portfolios from several major fund families, allocations with more bonds are performing better than allocations with more stocks. In other words, bonds are mostly down, but stocks are mostly down more. Bonds aren’t experiencing tremendous outperformance — it would be nice if they were actually up this year — but if you had a crystal ball and allocated more to bonds at the beginning of 2022 you would likely be better off than being 100 percent stocks at this moment.

Of course, we have no idea what direction bonds (or stocks) will go from here, at least in the short term. In the long term, we are optimistic to see returns of stocks and bonds in line with historical experience. We are also optimistic that in the event of a more intense stock market correction, bonds will likely perform even better in the likely flight to safety reaction of market participants.

As bond prices have fallen, bond yields have risen to a more attractive level, which is another silver lining in this challenging year. One of the biggest complaints is that bonds have had “no yield” for quite some time. With bond yields higher and inflation on the way down, we could be set up for a period where bonds provide a meaningful source of real return in addition to their ability to dampen stock market declines.

In short, 2022 has been a challenging year for bonds and stocks, but bonds continue to fulfill a very important role in investment portfolios.

Gene Gard is Chief Investment Officer at Telarray, a Memphis-based wealth management firm that helps families navigate investment, tax, estate, and retirement decisions. Ask him your questions or schedule an objective, no-pressure portfolio review at letstalk@telarrayadvisors.com. Sign up for the next free online seminar on the Events tab at telarrayadvisors.com.