Avoiding inflation's haircut
By Bruce E. Brinkman
I am waiting for my barbershop to open a drive-through window or at least an express lane, as I now spend more time waiting in line than in the barber’s chair. And when I pay $15 for what once was a $10 haircut, I long for the days when I had more hair and paid $5.
In our day-to-day experience, rising prices seem like a minor irritation, but over time, inflation erodes the value of many sources of wealth that we depend upon for future income and security. Knowing what assets have the potential to grow faster than rising prices is critical to any long-term investment strategy.
Ag producers with acreage possess a natural hedge against inflation: land. Land has one distinctive advantage over all other appreciable hard assets: There is no more being produced. Assets in limited supply have a built-in price adjustor during times of increasing demand.
But real estate has one distinct disadvantage as well: illiquidity. “Land rich, but cash poor” is a recipe for trouble when dollars are needed.
How can you hedge against inflation without tying up all of your wealth in assets that are not easily sold? Historically, a balanced portfolio of debt and equity investments has been the most profitable solution.
In recent months, inflation-wary investors have been buying bond funds, particularly funds of Treasury Inflation-Protected Securities. TIPS are U.S. Treasury securities that vary in maturity from five to 20 years. The value of the principal increases with the Consumer Price Index. Unfortunately, TIPS funds with longer maturities have been going dropping in value during the past 12 months due to modest inflation and rising bond prices.
A better way to hold debt in inflationary periods is by laddering individual bonds. Laddering, or purchasing quality corporate bonds with staggered maturities, gives the investor more control over the selection of each holding. And if the bonds are held to maturity, any fluctuation in price along the way is of little concern. Historically, bond ladders of maturities of less than 10 years have yielded an average return of about 5 percent.
Equities or stocks have been the darling of the investment world lately and dividend-paying, consumer stocks are usually solid performers when the prices of goods and services are rising. Unfortunately, the stock market as measured by the S&P 500 Index has risen close to 150 percent since its recent low point in March of 2009.
Many market-watchers believe this bull market is long on bull and due for a correction, so stock selection becomes critical. You will want to look at the stock of each company or the stock holdings in a mutual fund before investing, just as you would before buying cattle at an auction.
First, how much are you willing to spend? Overvalued stocks, like overpriced cattle, lower the potential return when you are ready to sell. Also, you wouldn’t buy a pen of cattle before looking them over, so why would you purchase a stock or fund before knowing about the company or fund? It pays to ask questions such as: Who manages the firm or the fund? What is their line of products or list of holdings and how have they fared in similar time periods? What is the consistency and trend of their dividend-paying history?
Besides these debt and equity investments, other assets which typically hold their value during inflationary times include gold and other precious metals, commodities and natural resources such as oil and timber. Each of these may have its place in a balanced portfolio.
Inflation, like our Midwest summer scorchers, can’t be prevented, but it can be managed. Buying a little protection now could help preserve your hard-earned wealth for you, your family and the next generation.
Editor’s note: Bruce Brinkman is a Certified Financial Planner with Allen, Gibbs & Houlik, L.C. of Wichita. He can be reached at 316-291-4191 or email@example.com.