How Can I Manage Inflation Risk?

Unless you’ve been stationed in Antarctica or the International Space Station these past 12 or so months, you’ve likely noticed huge increases in the cost of just about everything, from gasoline to groceries to goods and services. 

The inflation rate in the summer of 2022 was the highest since 1981 and prompted the Federal Reserve to begin aggressively raising interest rates – as much as three full percentage points this year alone, the largest single-year hikes since the ’80s.¹ 

Inflation can chip away at the value of many types of investments, especially fixed-income securities since rising inflation erodes the purchasing power of your coupon payments. In this high inflationary environment, attempting to manage inflation risk is top of mind for many investors. In this article we’ll lay out some common ways investors can attempt to manage risk to their investment portfolios from factors that stem from high inflation. 

3 Ways to Potentially Manage Inflation Risk 

Investors and retirees should take time to consider how rising inflation has impacted the value of their investments and the strength of their financial position since inflation affects everyone differently. If rising inflation is eroding the value of your investment capital, or leading to uncertainty regarding certain assets within your portfolio, you can attempt to manage inflation risk in a number of ways. 

1. Portfolio adjustments. Investors who are heavily invested in cash and bonds may find themselves in a challenging financial position due to rising and high inflation. Portfolio adjustments may be necessary to shift investment capital away from long-term bonds, since they are heavily affected by inflation risk. As noted earlier, high inflation reduces the buying power of returns generated from fixed-coupon-rate investments. Investing in short-term bonds is one way to possibly manage inflation risk because they mature faster, leaving you less exposed to the effects of rising inflation over time. Coupon payments also are set at current interest rates, which further limits your exposure to a high inflationary environment. 
   
   
2. Treasury Inflation-Protected Securities. TIPS are sold in increments of $100 for terms of five, 10, or 30 years. As the name implies, TIPS are designed to provide investors with a degree of protection from rising inflation. The face value of TIPS rises and falls with inflation and deflation, and they are recalibrated twice annually. Interest is paid every six months, and payments are based on the TIPS’ current par value, so payments can go up or down.² When your TIPS mature, you’ll get back either the current inflation-adjusted face value of the treasury bond or your original principal investment depending on which is greater. These bonds also are backed by the U.S. government, so they pose virtually zero default risk. 
   
   
3. Alternative investments. Alternative investments such as real estate and other tangible assets may be used as a hedge against inflation. Despite rising inflation, single-family rental housing or multifamily investment properties will likely remain in high demand, especially in markets posting strong job growth and rapidly increasing populations. Generally speaking, property values have trended upward in rising inflationary environments, which can lead to increased asset values and higher rental rates.³

Lastly, growth stocks can be more adversely affected by rising inflation than value stocks, since future cash flows from growth stocks are likely to be impacted by higher inflation rates.⁴ 

Putting it All Together 

The cyclical inflationary environment that’s swept across the country has pushed up prices across the board and roiled public equities markets. Investors can take a number of steps in an effort to manage the risk inflation brings to their portfolios, including reallocating a portion of their investment capital to low-duration bonds, Treasury Inflation-Protected Securities, or alternative investments. 

It’s of vital importance that you consult with a certified financial planner prior to shifting significant amounts of investment capital around within your portfolio. This discussion could help you create a long-term plan that helps you better navigate and potentially mitigate the effects rising inflation has on your investments while also balancing the costs associated with such protections. 

¹ How Much Will the Fed Raise Interest Rates in 2022?, Bankrate, https://www.bankrate.com/banking/federal-reserve/how-much-will-fed-raise-rates-in-2022/ 

² Treasury Inflation-Protected Securities, TreasuryDirect, https://www.treasurydirect.gov/marketable-securities/tips/ 

³ How Rising Interest Rates and Inflation Affect Real Estate Investments, Forbes, https://www.forbes.com/sites/forbesbusinesscouncil/2022/02/24/how-rising-interest-rates-and-inflation-impact-real-estate-investments/?sh=1bc076ec601f 

This material is for general information and educational purposes only. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor. 

Risk tolerance is an investor’s general ability to withstand risk inherent in investing. There is no guarantee a recommended portfolio will accurately reflect your tolerance to risk. 

All investments have an inherent level of risk. The value of your investment will fluctuate with the value of the underlying investments. You could receive back less than you initially invested and there is no guarantee that you will receive any income. 

All real estate investments have the potential to lose value during the life of the investment. Past performance is not a guarantee of future results. 

A bond or bond fund's yield, share price and total return change daily and are based on changes in interest rates, market conditions, economic and political news, and the quality and maturity of its investments. In general, bond prices fall when interest rates rise and vice versa. 

U.S. Treasury securities are guaranteed as to the timely payment of principal and interest if held to maturity. Investment options are neither issued nor guaranteed by the U.S. government.