Wanted: A Pragmatic Portfolio Strategy For Countering The Hyper-Inflationary Hawks And For Being Prepared If They Turn Out To Be Right

Friday, September 21, 2012 07:11
Wanted: A Pragmatic Portfolio Strategy For Countering The Hyper-Inflationary Hawks And For Being Prepared If They Turn Out To Be Right

Tags: gold | inflation | investment strategies

It seems that nothing the Fed does makes everybody happy. Now that the Fed has finally made a move—and an aggressive one, at that—the inflation hawks are back and en vigueur.
So how are you and your clients to cope, especially when the favorite inflation fighting security (TIPS) has never really had its mettle tested in a hyperinflationary environment?

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As it turns out, there’s no one security that will offer your clients complete protection against inflation.
So it might be a good idea to build a portfolio with the goal of winning out against inflation strategically instead of with one magic bullet.  
Back-testing is one way to find out how various securities stand up to the inflation beast.
That’s what Fidelity Investments decided to do. They started with TIPS, going all the way back to the year TIPS (Treasury Inflation Protection Securities) came to market.
They measured performance against the Consumer Price Index (CPI) on an annual basis.
Neither TIPS nor any of the other eight securities or asset classes tested offered investors complete protection.
Here’s a rundown of performance against the CPI. Gold outperformed 54% of the time and agricultural commodities 66%. The traditional 60/40 portfolio mix outperformed 69% of the time, matching the performance of equity investments in real estate.
The S&P 500, on the other hand, outperformed 70% of the time, without any help from its fixed-income cousins. Income-producing real estate investments edged out the S&P at 71%.
Having none of that, the Barclay’s Aggregate Bond Index outperformed the CPI a whopping 75% of the time. Leveraged loans outperformed 79% of the time and the best performer, yes, you guessed it, TIPS at 80% of the time.
So why not just sock all of your clients’ money in TIPS and go hide under a mattress somewhere?
Because the track record of all of these securities, asset classes, combined portfolio compositions is uneven. And there are times when non-correlation to the markets simply does not work (remember 2008?)
It’s also still true that some asset classes are riskier than others. Doing your own due diligence subsequent screenings will allow you to take your clients’ personal and investment goals into consideration as well as their ability to weather risk.
You can also create a sub-portfolio designed specifically for the purpose of defeating inflation. And, of course, you’ll want to create that sub-portfolio keeping in mind your clients’ other sub-portfolios such as income-producing, capital preservation, growth, and opportunistic.
And the fact remains that, although TIPS beat the CPI more often than any other security or asset class, they still have not gone through a hyper-inflationary tea party.
Either way, the recent activity in the economy, getting closer to year-end, and the questions about the election and the fiscal cliff are plenty of good reasons to set up a review session with your clients and show them even more of the value you already offer them.

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