The best inflation-proof investments for growing your money when prices are rising.
Inflation has been prominent in the news since late 2021 when it started to creep up again after a relatively stable decade. At first, it was slow, but eventually, the effects of the pandemic, consumer demand, supply chain restrictions, and government stimulus began to show
If you’re worried about inflation, you’re not alone. Rising inflation is evident in the prices of goods and services, which can hurt because your money doesn’t go as far as it used to. In other words, it takes more money to buy the same things.
Investing is one way to protect yourself from inflation. When you invest, you’re putting your money into an asset that has the potential to grow. Over time, the best investments can keep up with inflation and even outpace it.
What is Inflation?
Inflation is a sometimes subtle, sometimes noticeable rise in prices caused by a decline in purchasing power.
It’s measured in terms of various indexes that track how certain goods’ prices fluctuate. While the Consumer Price Index (CPI) focuses on the prices consumers pay for a predefined basket of goods, the Producer Price Index (PPI) and Purchasing Managers Index (PMI) are leading economic indicators that track industrial and commodity prices.
As prices go up, companies and consumers experience lower purchasing power and a sometimes palpable increase in the price of goods and services.
What Causes Rising Inflation?
A few factors commonly drive high inflation and a rise in consumer prices.
This happens when the economy grows faster than the supply of goods and services. It’s often referred to as “too much money chasing too few goods,” which drives up prices.
Inflation happens in this scenario when businesses raise prices to take advantage of strong consumer demand. A strong economy can drive increases in demand for raw materials, and supply shortfalls can cause commodity and raw material prices to rise.
We’ve experienced several examples of this over the past few years. The COVID-19 pandemic, stimulus payments, lockdowns, and the subsequent recoveries led to low unemployment and people with lots of money to spend. However, lockdowns also crippled the supply chains, and many economies suffered massive shortages of essentials and luxury items.
A situation with stable demand and increases in the cost of inputs or supply constraints can cause prices to go up. Commodities and raw materials can increase, and businesses pass those costs on to consumers through higher prices.
Cost-push inflation includes increases in the price of energy, oil, or other raw materials. When supplies are constrained for any reason, prices naturally increase.
Inflation can also be caused by the federal reserve printing too much money. This is called printing money inflation, and it’s a dangerous type of inflation. At extremes, it can lead to hyperinflation, where prices go up so fast that money may eventually become worthless.
What Causes the Current Inflationary Environment?
The current period of inflation is driven by a combination of the major factors listed above.
It started with the COVID-19 pandemic in 2020 and 2021 when the federal government (along with many other countries) printed trillions of dollars to maintain economic growth and stability.
All of this extra money flooding the market helps increase demand for many products and materials, but supply chains struggle to keep up.
Further, Russia’s invasion of Ukraine in early 2022 sent global food and fuel prices through the roof. The combination of all of these factors has brought us to the current cycle of seemingly endless price increases.
Low unemployment’s link to inflation
Many aren’t aware of the connection between the strong labor market and rising prices, or the fact that low unemployment is a major factor in demand-pull inflation. Despite a recent minor slowdown in hiring, unemployment remains low, and wages continue to rise.
The housing market is another example of demand-pull inflation. Economic policies kept interest rates low, encouraging consumers and investors to buy more houses. However, a limited supply of real estate, coupled with strong demand, leads to inflated housing prices. This, in turn, contributes to inflation and drives up the cost of raw materials.
How a high inflation rate hurts consumers and investors
Inflation reduces purchasing power. But it can also lead to higher interest rates as the Federal Reserve attempts to cool off the economy. These rates make it more expensive to borrow money.
Retirees and those living on a fixed income struggle to keep up with rising inflation. They rely on fixed incomes, and inflation can eat away at their purchasing power. Inflation can also reduce an investment’s value, making it harder to grow savings for retirement.
The Best Inflation-Beating Investments to Add to Your Investment Portfolio
Investing for a long period of inflation has a few basic dos and don’ts to ensure that your money works for you and not against you. For example, keeping your funds in a cash savings account effectively causes you to lose money as your purchasing power drops.
Investments are one way to hedge against inflation. There are a few different types of investments that offer various levels of inflation protection.
Real estate as an inflation hedge
Whether you’re investing through REITs or in income properties you manage yourself, real estate typically does well during inflation. Much like food, there will always be a need for residential and commercial space.
Residential real estate has an advantage: as property values increase and inflation rises, landlords can increase rent to maintain cash flow.
However, managing commercial and residential property is far from passive. While investing in REITs or investments through a crowdfunding platform removes much of the work, they also remove some control from the individual investor. Your investments become subject to the whims of the market and the greater economy.
Equity-based securities to keep up with rising prices
Over the short term, bonds and individual stocks can take a beating in times of high inflation rates. The stock market has declined significantly since the beginning of 2022, and inflation is the highest it’s been in 40 years.
Stocks and equity investments can be a long-term hedge against inflation because they offer the potential for dividends and capital gains and can help offset the effects of inflation on your other investments.
But stocks don’t provide much inflation protection in the near term because of inflation’s negative impact on companies and their profitability. Further, individuals may be less comfortable spending on luxury goods when prices increase, reducing demand. Customer acceptance of price increases can also impact a company’s margins.
Precious metals and other commodities
From energy commodities like oil and natural gas to buying precious metals or exchange-traded funds (ETFs) that reflect future prices, commodities offer a natural hedge against inflation.
Many investors also tout the purchase of physical gold as one of the safest investments during times of high inflation.
These opinions don’t necessarily make commodities good hedges against higher inflation. Future prices are unpredictable, and the value of these asset classes depends largely on demand.
Treasury Inflation-Protected Securities, often called TIPS bonds, pay interest based on a rate that mirrors inflation as measured by the consumer price index. When inflation rises, holders of these securities receive a higher interest rate upon compounding.
Series I savings bonds are another type of inflation-protected securities. These low-risk options combine a fixed interest rate basis with a variable rate adjusted semi-annually in May and October.
While TIPS and Series I bonds can help hedge against inflation, they have some limitations.
Series I bonds carry a maximum investment of $10,000 per person per year and a minimum holding period of one year. Interest payments are made every six months until the bonds mature after thirty years, and cashing out before the initial five-year mark comes with a penalty of the last three months of interest.
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Is Farmland an Inflation-Proof Investment?
When prices and interest rates rise, savvy investors seek investment vehicles that increase in value at a similar rate. As an asset class, farmland combines many of the advantages that make other inflation- and recession-proof investments enticing without the drawbacks, which is one of the many reasons it is considered a valuable addition to a diversified portfolio.
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Farmland is an excellent hedge against inflation not only because it’s a physical asset that tends to increase in value as inflation goes up, but also because it provides a steady income stream from crop production. This, along with its other attractive attributes, can help offset the effects of inflation on your other investments.
These are some of the reasons farmland can be an excellent addition to a diversified portfolio:
Scarcity supports land value
Farmland is a finite resource with values that have typically increased by more than the inflation rate.
Since the 1950s, the amount of U.S. land devoted to farming has decreased by 22 percent, increasing scarcity and keeping land values high. Even in times of high inflation, the rise in farmland prices often matches or beats inflation.
Growing food demand creates a necessity for farmland
An ever-increasing population drives a growing need for food and raw material production. High inflation doesn’t change that, and the demand for food will likely remain steady.
Increasing food consumption and growing demand for healthier food choices in developed countries will underpin solid investment returns for savvy farmland investors, even as inflation continues.
Historically, farmland shines as an asset class with low volatility, even when inflation or a recession turns financial markets upside-down. U.S. farmland delivered steady positive returns through the 2008-2009 recession and the recent pullback, even when the equity markets didn’t.
Multiple revenue streams create income
Like other real estate investments, farmland is a scarce physical asset that tends to increase in value as inflation increases. But most real estate doesn’t generate a steady income stream from crop production.
Farmland functions as a natural inflation hedge, as investors benefit from multiple revenue streams from crop sales and the growth in the value of the land.
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How Farmland Can Help You Beat Inflation
The current extended inflationary period highlights the importance of pursuing an investment strategy that includes inflation-proof asset classes and putting your money to work for you. Farmland’s multiple advantages make it an excellent lever for ensuring your investment portfolio keeps up with inflation, especially when many economists are forecasting prices will remain elevated into the foreseeable future.
Could farmland be the best inflation hedge? The fact that it has historically outperformed nearly every other asset class in recent inflationary times indeed points in that direction.
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