The idea of an investment hedge is to buffer portfolios or wealth from losses due to recession or inflation.
In 2022, inflation is the threat on everyone’s minds, with investors scrambling to allocate to assets – both traditional and new – floated as potential hedges.
Traditionally, investors have long flocked to gold as an inflation hedge. The idea is that tangible assets like gold preserve their value better than other assets during inflationary times. But is it true?
Ideally, as inflation erodes buying power, gold should counter inflation’s effects by increasing value. In that regard, gold’s track record has been spotty. There have been times where the price of gold has increased in inflationary times, but other times where it hasn’t. Besides its unreliability as an inflation hedge, gold’s other problem is its volatility, with the price of gold showing significantly more volatility than even stocks.
Reliability is the one essential element for serving as an effective investment hedge, and gold fails in this area. Maybe that’s why there’s been so much talk lately of more modern assets such as crypto as an alternative to gold as an inflation hedge.
Can crypto be counted on to counter inflation?
Perhaps we already have the answer. If you want to see how crypto would perform as an inflation hedge, all you have to do is look back to December of last year to see how crypto performed in the face of the highest inflation rate in 40 years.
In December, when inflation hit a rate of 14.6% – the highest in 40 years – the bitcoin price dropped further than prices rose, losing more than 20% in value in the same timespan. As an inflation hedge, bitcoin failed miserably. The ideal inflation hedge would have maintained or increased value, not lost it.
In inflationary times, diminished buying power erodes as the price of goods and services soar with income remaining stagnant. In the past, the Fed has stepped in to raise interest rates to slow economic growth. This time will be no different as the Fed has signaled its intent to raise interest rates in 2022 – perhaps up to three times.
When interest rates rise, consumers and businesses borrow less; thereby slowing economic growth. This is seen as the lesser of two poisons. Either way, the market will experience pain.
Until the Fed acts, inflation will continue to grow, and the only way to keep up with inflation is to grow income that keeps pace with rising prices. That is why gold and crypto are not ideal hedges. Not only are they sketchy on maintaining value during inflationary times, but they produce no income whatsoever – let alone grow it – to counter diminished buying power.
Another problem with gold and crypto is that they are reactive hedges. They are only useful during inflationary times – if at all. They can not be relied on to produce positive returns during less turbulent times. Gold prices have a reputation of catering once a crisis is over, as we saw post-Financial Crisis in 2010, and crypto can bottom out in any environment.
The ideal inflation hedge is the proactive hedge, not the reactive hedge – the type of hedge that prospers in any environment. That is why smart investors gravitate towards commercial real estate (CRE) – particularly in certain segments of CRE that thrive in any environment.
Cash flowing CRE – particularly in segments with inelastic demand (i.e., occupancy levels unaffected by rising rents) – is the ideal proactive hedge. Rising prices offer the two elements needed to counter inflation – appreciation of the underlying asset and increased income through increasing rents. This ability to increase rents in a CRE property without diminishing occupancy and revenue is how you counter inflation.
Investing in the right CRE segments where occupancy is unaffected by rising rents ensures reliable and growing income to help investors absorb the impact of lost buying power. If your buying power is slashed in half, doubling your income will counter the effects.
The ideal CRE segments are ones with consistent demand in any environment. Affordable multifamily manufactured homes, and senior housing fit the description. The beauty of these segments is that they perform in any economic environment. They are not limited to acquisition only in inflationary or downtimes. These investments offer consistent income and growth in good times and bad.
If you’re looking to invest in an inflation hedge, invest in one with a reliable track record of maintaining value AND cash flow in the face of rising prices and diminished buying power. Follow demand. Follow the goods and services consumers will always need, and you’ll be led to the same hedging assets smart investors have been allocating to for decades – assets like multifamily.
That’s why smart investors avoid gold and crypto for inflation hedges since neither cash flow nor reliably maintain values during inflationary times – unlike CRE.