Add inflation to list of scenarios advisors are dealing with this year and yes, the threat is very real.
If hard and fast economic data doesn't convince one that a rising Consumer Price Index (CPI) is a near certainty and one that's arriving soon, perhaps factors such as surging commodities prices, supply chain issues and employers essentially bribing employees to return work will do the convincing.
When Chick-fil-A has to cap the number of sauce packets each customer gets because of supply chain woes, it's probably a good time to recognize inflation is here.
For advisors and their inflation-wary clients, now is also an ideal time to consider an often overlooked inflation-fighting strategies.
Break from the Norm with Real Assets
In bygone inflationary eras, commodities, Treasury Inflation-Protected Securities (TIPS) and a modest amount of other assets were viewed as the primary inflation-fighting vehicles.
This time around, things could be different. Yes, advisors and clients here that all that the time, but with income so hard to come by, low-yield tips and zero income gold, silver, etc. aren't going to get the job for clients.
“However, it can be a challenge to select a single inflation-sensitive exposure from myriad menu options, let alone to conduct the due diligence needed to formulate a complementary combination of them,” according to Morningstar research.
An avenue for investors to consider is diversified real asset strategies, which specifically feature a basket of inflation-fighting assets. Due to the broad nature of these strategies, the typical avenue for accessing them is in fund form – either via active funds or exchange traded funds. There are a few dozen funds that check the inflation-sensitive exposure box, but they're not twins. Most aren't even cousins, meaning advisors need to perform due diligence.
“For example, a fund that combines real estate and infrastructure assets would suffer outsize losses during a recession, as both assets are highly correlated to gross domestic product growth,” adds Morningstar. “On the other hand, a fund that allocates to every conceivable real asset type may ultimately resemble a market portfolio, with a risk/return profile that doesn't differentiate itself from assets already in an investor's portfolio.”
The right real asset fund will not only guard a portfolio against inflation, but add much needed diversification benefits, too. As advisors well know, plenty of clients come to them with portfolios that are over-allocated to stocks, bonds or both, but those same portfolios lack exposure to commodities, infrastructure, real estate and other assets that reduce correlations while thumping a rising CPI.
Putting it Into Practice
Not an endorsement, but a solid real assets idea for many clients is the SPDR SSGA Multi-Asset Real Return ETF (NYSEARCA:RLY). Attractively relative to active strategies in this category (0.50% per year), RLY is an ETF of ETFs, meaning it holds other ETFs.
That's a cost-effective, efficient way of establishing real assets exposure. RLY, which debuted in 2012, holds 10 other ETFs, spanning energy equities, TIPS, miners, commodities, infrastructure, agribusiness stocks, domestic and international real estate and foreign bonds.
“Diversified real asset strategies address this by offering exposure to a range of assets that, when constructed properly, can further contribute to a portfolio's diversification and ultimately temper its risk profile over a longer time horizon, providing benefits beyond straightforward inflation protection,” according to Morningstar.
With RLY, clients can get the best of both the diversification and inflation-fighting worlds.
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