Asset classes that perform well during a potential inflationary environment

Link to the full article: https://uakdiversified.com/blogs/f/financial-advice---inflation-and-investment

This letter is the second part of the two. Here is the link to the first part.

https://uakdiversified.com/blogs/f/financial-advice---inflation-and-investment

We will cover what asset classes perform well during a potential inflationary environment.

For Fixed Income/Bonds:
Inflation protected Treasury bonds (a.k.a. TIPS) - TIPS are designed to protect investors from the adverse effects of inflation. When TIPS mature, bondholders are paid the inflation-adjusted principal or original principal, whichever is greater. They are issued by the US government and have virtually no default rate. iShares TIPS Bond ETF can be a good choice for this consideration.

International bonds (high quality) – International bonds could be beneficial during periods in which the US government is operating a rapid mass printing of money, as they are doing right now. While the US government is committed to keeping the interest rate low (hence, keeping the bond yield low), it is also printing money at such a large scale that it could stoke inflation. Consider this, most other foreign countries cannot do that. They must keep the interest rate high and attractive and print cash more carefully in order not to devalue their currency. The US dollar, being a global reserve/trade currency, does not have that issue as much, as the dollar is in demand internationally. Thus, adding international bonds could help you get reasonable interest rates while US bonds’ interest rates keep falling.

For Stock:
Stocks tend to perform reasonably well if inflationary pressure does not create disruption in the economy. High, but not out of control inflation can be a positive factor in the stock market. However, the US stock market is currently experiencing it’s near highest valuation point in over 100 years of stock market history. The area the bubble is forming around is large growth-oriented fabulous and famous US companies, such as Google, Amazon, Walmart, UnitedHealth Group, etc…
So, consider these alternatives:
Mid/small cap stocks: We think it is wise to take some cash off the table from large company stocks and check out much neglected smaller size companies. While we hear mostly about the S&P and Dow Jones indexes in the news, the S&P and Dow Jones do not fairly represent the entire stock market. Those indexes mostly reflect the selective reality of large and famous companies, such as Walmart, Amazon, Coca Cola, and you name it. However, there are quiet and unrecognized companies that have survived multiple generations with strong cash flow generating capabilities. A good investing option is to use exchange traded funds, such as iShares S&P Mid-Cap 400 Growth ETF (NYSEMKT:IJK). IJK is an ETF that invests specifically in mid-cap growth stocks.
International stocks: International stocks look very reasonably priced and should be included as a hedge against overvalued US large cap stock, and as protection against growing inflationary pressure. The below chart shows how undervalued foreign stocks are relative to the US stocks in year 2021.

Finally, there are alternative investment classes, real estate investment trusts, commodities, and crypto currency. We do not see a convincing foundational logic to pursue commodities or cryptocurrency. Commodity prices have plummeted despite demand pick up from the current business expansion cycle. Revolutionary technologies to detect underground minerals and the ability to extract has been revolutionized especially since the mid-2000s. This has resulted in an overall commodity price depression over the last decade and we expect the downward pricing pressure to continue. Also, crypto currency, while earning fabulous returns over the past few years, does not have a justifiable investment thesis for us to make any comment. There is still no legitimate business or economical use other than it being just an “alternative” at this point.
That leaves the last asset class, real estate investment trusts (REIT). REITs are funds that have real estate investment properties as the underlying asset. Real estate’s tendency to perform well during inflationary periods has been proven consistent throughout history and in other countries as well. Unlike bond holders, land and property owners can increase rent as the value of currency decreases with inflation.
I hope this information was helpful. If you have any specific questions as to how to incorporate these asset classes to your investment portfolio, feel free to reach out to us.
Sarah and Ujae Kang,
Founders of UAK Diversified Wealth Management.