Inflation has been a topic of hot discussion in the investing community of late. The Reserve Bank of Australia (RBA) and other central banks around the world are insisting that rising prices won't be a problem in the near future.
Despite that, bond markets have started to price in inflation fears, together with the interest rate hikes that normally follow. Rising bond yields have essentially been behind the volatility we have seen in the tech space over the past month or two.
So what if the RBA is wrong, and inflation does come to our economic shores sooner than anticipated? Here are three ways you can help protect your portfolio.
Plan ahead
Have a think about which ASX shares will perform in an inflationary environment. For example, miners might do well since commodity prices tend to rise with inflation. The ASX has many of these companies, including BHP Group Ltd (ASX: BHP) and South32 Ltd (ASX: S32). Banks are also effective hedges against inflation as they tend to benefit when interest rates rise.
Another factor to keep in mind is pricing power. If a company can raise the prices of its goods or services in line with inflation without losing customers, it's more likely to be a winner.
Be prepared to rethink ASX dividend shares
ASX dividend shares have been a very popular asset over the last few years as interest rates have fallen. But, what falls can also rise. If interest rates start to inch up again, we could see a movement out of dividend-paying shares.
That's because safer cash alternatives like savings accounts and term deposits will become more attractive. If an investor has a choice between a dividend share with a 3% yield, and a term deposit with a 3% yield, many will choose the term deposit.
Diversify into inflation-resistant assets
When it comes to inflation, there are some asset classes that are known to perform well. Adding some of these to your ASX share portfolio could offset some inflationary pressure. Gold is often touted as a good investment during times of inflation due to its scarce supply. Arguably, the same could be said of Bitcoin (CRYPTO: BTC), although that is far less verifiable at this stage.
But there are other options too. Many real estate investment trusts (REITs) hold properties with contractual inflation-linked rental increases built in. Infrastructure providers like toll road company Transurban Group (ASX: TCL) also offer similar inflationary protection. And there is always inflation-linked government bonds, like those held in the iShares Government Inflation ETF (ASX: ILB).
Foolish takeaway
Like most things, it's better to have a plan and not need it, rather than need a plan and not have it. There are warnings that inflation may be on the horizon. Even if it doesn't come to pass, the mere threat might be enough to justify an action plan today.
