6 Best Inflation Hedges To Protect Your Portfolio

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According to the latest figures issued by the Bureau of Labor Statistics, inflation remains stubbornly high at 8.3% (August 2022), despite falling slightly from the June high of 9.1%.

The Federal Reserve has steadily increased the Fed fund's lending rate to reduce inflation. But thus far, there’s been no meaningful improvement in inflation. And there are no guarantees of a turnaround on the horizon.

There are no guarantees that anything will definitively outperform inflation. But given that high inflation now seems to be a long-term trend, it may be time to assume a few defensive positions in the best inflation hedges.

The Short Version

  • Inflation has been rising steadily for the past two years, despite efforts by the Federal Reserve to lower it by increasing interest rates.
  • Certain asset classes have proven to be excellent inflation hedges in the past, though there’s no guarantee they will continue to succeed.
  • Some of the usual suspects, energy, precious metals, and real estate, are on the short list of inflation hedges. Still, precious metals and other asset classes have had disappointing performances so far.
  • TIPS can provide you with a solid inflation-fighting foundation in your portfolio while you invest in other asset classes with a history of positive inflation-related performance.

6 Best Inflation Hedges for 2022

As concerns about inflation grow, more and more investors are looking for ways to protect their portfolios. While there are many options available, these six inflation hedges are some of the best.

1. Treasury Inflation Protected Securities (TIPS)

The United States Treasury issues treasury securities called TIPS. Not only does the U.S. government guarantee the principal amount (if held to maturity), but they also pay interest.

TIPS won’t make you rich during inflation, but they can help you keep up with the prevailing prices.

But the secret sauce of TIPS is that the Treasury makes principal additions to the securities based on increases in the Consumer Price Index (CPI). If, for example, the CPI increases by 8% in 2022, the government will add 8% to the principal value of the securities you own — plus a small interest rate.

TIPS can be purchased through Treasury Direct in denominations of $100, in terms of five, 10 and 30 years.

One type of TIPS worth checking out are I Bonds, which currently pay 9.62%. You can purchase them in denominations of as little as $25 to a maximum amount of $10,000 per calendar year.

In theory, moving 100% of your portfolio into TIPS will let you ride out the current wave of inflation without losing a penny to it. However, we don't recommend that strategy. Instead, it's best to maintain a diversified portfolio, even when inflation is on the prowl.

Diversification is essential, even during inflation, because you can never know which investments will be high performers. But TIPS can act as a cornerstone in your portfolio, taking up a big chunk of your bond allocation.

Read more >>> How to Diversify Your Investment Portfolio

2. Raw Materials

Much like energy, raw materials do well in an inflationary environment. This is also because many are critical to the global economy. And any essential commodity tends to perform well during times of crisis, which is precisely what inflation is.

Though oil and gas lead the pack among commodities, other raw materials stand out in times of inflation. Some examples include metals such as nickel and copper, industrial chemicals and building materials. Lithium's price is rising because it's a key component of batteries for electric vehicles.

Regarding raw materials, consider investing in a fund instead of individual companies. While a particular company may profit from a significant price increase of a commodity, trying to choose high-performing companies could be a gamble.

For example, until about six months ago, lumber was in short supply and rising rapidly in price. But that situation has since reversed.

The Materials Select Sector SPDR Fund (XLB) provides exposure to raw materials. The fund invests in companies producing chemicals, construction material, containers and packaging, metals and mining, and paper and forest products.

3. Real Estate

With the possible exception of precious metals and energy, real estate may be the single biggest category of investments to perform well during inflation. That’s certainly been the case in the latest go-round. The price of an average house sold in the US has been rising at around 20% per year over the past couple of years.

If you own a home, you’ve probably already seen a significant increase in value. Most major markets around the country, and even many rural areas, saw sharp increases.

But even if you don’t own a home, you can invest in real estate through your portfolio. You can add either real estate-related stocks or invest in real estate investment trusts (REITs).

Not all REITs have performed well this year, most likely due to factors that affected the general stock market, such as rising interest rates. But some funds have turned in a positive performance, such as Sabra Healthcare REIT (SBRA) and VICI Properties Inc. (VICI).

You can also invest in real estate through crowdfunding platforms such as Fundrise, Crowdstreet, or X. And Arrived Homes could be a good option if you'd like to invest in single-family rental properties for as little as $100.

Read more >>> What Is a Real Estate Investment Fund?

4. Precious Metals

Precious metals, particularly gold, have been nearly synonymous with inflation. Ask just about anyone to answer the question, “what’s the best investment to hold during inflation?” and more than a fair number will answer gold.

Though it’s hard to argue with the past performance of gold in times of inflation, the experience this time has been much more subdued.

The price of gold responded positively to the peak of the Covid crisis, then went higher again with the Russian invasion of Ukraine. But shortly after each event, gold pulled back. For example, while gold opened in 2022 at around $1825 an ounce, it recently closed at $1710, down more than 6% year-to-date.

Rising interest rates are partially to blame for weighing down the price of gold. However, should those higher rates fail to stop or even slow the inflation rate, gold’s best days may be ahead.

What does seem clear, however, is that gold’s reaction to inflation may be more a matter of history and legend than current reality. Therefore, any gold investment should represent only a small, single-digit percentage of your total portfolio. That would give you the benefit of an increase if the price of gold skyrockets while limiting your losses if it continues to languish or even declines further.

You can invest in gold directly by holding gold bars or bullion coins, but investing in a gold exchange traded fund (ETF) is cheaper and more convenient. The SPDR Gold Shares ETF (GLD) is one of the most popular. The fund invests directly in gold bullion. But the fund is down about 7% year-to-date and doesn’t pay dividends.

(Author’s disclosure: I own a small position in the GLD fund.)

Read more >>> How to Invest in a Gold ETF

5. Stocks

This may be a surprise recommendation for most investors, mainly since the market is not performing well thus far in 2022 and has certainly not outperformed inflation.

But when it comes to rising price levels, we must look at the long term. And in that regard, stocks have an outstanding performance.

Since the S&P 500 index was developed in 1957, it has produced an average annual return of around 10.7%. Considering that inflation averaged about 3% per year over that same period, it’s clear that stocks are one of the best long-term inflation hedges ever.

That makes a compelling argument for investing in stocks in all financial and economic environments. Though stocks may dip and even crash occasionally, the long-term trend is decidedly positive. And if you’re a long-term investor, you can never afford to abandon stocks. You can invest easily and inexpensively by buying any of the many ETFs tied to the S&P 500 index.

You can also invest in inflation-resistant stock funds. For example, the Fidelity Stocks for Inflation ETF ( FCPI has “only” lost 9.76% YTD compared to the S&P 500 which is down 17.72% as of writing. And over the past 12 months, FCPI has been virtually flat, while the S&P 500 has declined over 11% during that period.

The idea of remaining invested in stocks doesn’t mean bailing out of other inflation-sensitive investments. But stocks should still occupy a large percentage of your portfolio, no matter what’s happening with inflation.

Read more >>> What Causes the Stock Market to Rise and Fall?

6. Energy Stocks and Funds

If you follow the stock market, you’re undoubtedly aware that energy outperformed most other sectors over at least the past year. That’s not surprising, given that energy has historically been among the best inflation hedges. That’s likely because no matter what’s happening in the financial world, the global economy still needs energy to keep running.

Major oil stocks have been providing incredible returns thus far in 2022. For example, Exxon Mobil (XOM is up 50% through August 31. Chevron (CVX)is up nearly 39%.

If you’d prefer to avoid picking individual stocks, you can invest in an energy fund. A prominent example is the Energy Select Sector SPDR ETF (XLE). For the price of a single share of the ETF, you can get a fully diversified portfolio in the energy sector through any major brokerage firm. Like large energy company stocks, the XLE has shown impressive year-to-date performance, rising by more than 40% through August 31.

Energy investments have a bonus in the form of dividends. For example, the XLE has a current dividend yield of 3.48%. Exxon Mobil and Chevron have similar dividend payout rates.

If you're a socially-conscious investor, you may have qualms about investing in oil sector. Thankfully, yhere are many renewable energy stocks, such as Brookfield Renewable (BEP) and ETFs, such as iShares Global Clean Energy ETF (ICLN).

Related: Oil vs. Renewable Energy Stocks: Which Should You Invest in Today?

The Bottom Line

Investing for inflation is a complicated process. Certain investment classes performed well with inflation in the past, but there's no guarantee that history will repeat itself.

Keeping at least some money in these six top inflation hedges means that you maintain a diverse portfolio of assets that may grow. After all, one asset class can skyrocket at any point while a previous high-flyer heads in the other direction.

Investigate inflation:

Kevin Mercadante

Kevin Mercadante is professional personal finance blogger, and the owner of his own personal finance blog, OutOfYourRut.com. He has backgrounds in both accounting and the mortgage industry. He lives in Atlanta with his wife and two teenage kids.

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