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Multi-asset inflation hedging portfolios

Key points:

  • In this note, we revisit the 2012 academic article “Inflation-Hedging Portfolios: Economic Regimes Matter”, by including the last seven years of history. The findings, by and large, confirm the advantages of holding a diversified portfolio for inflation hedging purposes
  • The optimal solution depends on three factors; the economic regime, the target return and the investment horizon
  • We find that increasing the exposure to riskier assets (equities and alternatives) can provide higher target returns over inflation
  • The results are particularly interesting for investors that for whatever reasons – absence of a domestic inflation-linked bonds market, high real-return target and so on – need to look beyond inflation-linked bonds for inflation hedging purposes
  • We look at the benchmark allocations of different types of institutional investors who face inflation risk and whose returns must at least match inflation. High experienced institutional investors, adopt well-diversified portfolios, in particular by including an important exposure to alternative investments
  • The statistics are overall in line with academic results. Taking more risk is important when it comes toachieving potentially inflation-beating returns and a well-diversified portfolio generally tends to have the lowest shortfall probabilities

The importance of preserving purchasing power

Over the last two years, inflation has moved up from around 0% to closer to 2.5% in the US and to 2% in the Eurozone. All investors, whether retail or institutional, should be looking to ensure their returns can beat inflation over time. However in an environment of low and /or declining inflation, the risk is that investors might consider this objective as less relevant and put it aside.


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