Young children are often afraid of the monsters that lurk under their beds or at the top of the stairs. Parents may be forced to perform a check every night and announce, “I don’t see anything; the coast is clear!” before bedtime. However, as any self-respecting child knows, just because you can’t see the monster, it doesn’t mean it’s not there. That lesson can be extended to investing and inflation: Just because you don’t see (feel) inflation, it doesn’t mean it’s not there.
An Investing TIP
Inflation can erode your portfolio’s real value. However, there are ways you can somewhat protect yourself against inflation. Purchasing real assets (like real estate) and inflation-adjusted debt securities (like U.S. Treasury Inflation Protected Securities, TIPS) may help to protect a portfolio’s purchasing power during periods of inflation.
Because commodities by definition have a limited supply, higher inflation often means higher commodity prices. A fund that invests in commodities may be a wise choice during periods of high inflation. But investors should be aware of the high levels of risk associated with commodity trading.
TIPS are considered a lower-risk investment compared to commodities since they are backed by the American government and their par value rises with inflation while their interest rate remains fixed. Since the interest is applied to the adjusted principal, interest payments can vary. If inflation rears its head, the interest increases, and if inflation decreases, the interest payments follow suit.
TIPS can be purchased individually or as a bond fund. Purchasing a TIPS fund is convenient, as individual TIPS can only be bought with specific maturity dates. Additionally, if you own individual TIPS you need to wait until the next auction date before you can reinvest the interest in purchasing more TIPS, while TIPS funds normally allow you to automatically reinvest the dividends.
Even if you think your investments are relatively safe, it may be prudent to check for monsters under the bed at night.
Douglas Goldstein, CFP®, is the director of Profile Investment Services. He is a licensed financial professional both in the U.S. and Israel. He offers securities through Portfolio Resources Group, Inc., Member FINRA, SIPC, MSRB, NFA, SIFMA. Accounts carried by National Financial Services LLC. Member NYSE/SIPC, a Fidelity Investments company. His book Building Wealth in Israel is available in bookstores, on the web, or can be ordered at: profile-financial.com (02) 624-2788 or (03) 524-0942.