As inflation proves stickier than anticipated, the role of real assets in a diversified portfolio becomes increasingly important for inflation mitigation. Historical data and recent trends underscore that real assets not only shield against inflationary pressures but also offer the potential for attractive returns in a more inflation-prone economic environment.
The disinflation narrative has stalled. Quarterly annualized U.S. core PCE inflation rose from 1.5% in Q4 to 4.4% in Q1, reinforcing the notion that a smooth return to a low inflation regime is unlikely. Understanding the tactical and strategic role that real assets play in a diversified portfolio is key to navigating this environment.
Historically, during higher inflationary periods, real assets, such as commodities and real estate, have offered risk mitigation against economic hardships. In the 1970s, a period not dissimilar to the current environment, while stocks and bonds were not able to keep pace with inflation, real assets delivered returns that surpassed the inflation rate.
Marc Dummer, Client Portfolio Manager and Mike Reidy, Director of Client Portfolio Manager at Principal Asset Management said, “While the current stickiness of inflation is at least partially due to the cyclical strength of the U.S. economy, several sizable secular macroeconomic trends, such as deglobalization and rising commodity costs, suggest that the economy may be shifting to a more inflationary paradigm. Fortunately, real assets have historically shown potential for helping mitigate the effects of inflation on portfolios and for delivering attractive returns – their tactical and strategic importance to portfolios today should not be overlooked.”
2022 further exposed traditional equity and bond’s inflation vulnerabilities. As they declined almost in tandem, the 60/40 strategy reported its worst performance since 2008 and one of its worst in history. By contrast, real assets outperformed, with commodities easily delivering its best performance since the GFC.
While the current stickiness of inflation is at least partially due to the cyclical strength of the U.S. economy, several sizable secular macroeconomic trends, such as deglobalization and rising commodity costs, suggest that the economy may be shifting to a more inflationary paradigm.
Fortunately, real assets have historically shown potential for helping mitigate the effects of inflation on portfolios and for delivering attractive returns – their tactical and strategic importance to portfolios today should not be overlooked.
