Where to put your money when inflation is on the rise: 5 expert tips

Trying to time the markets is often a wild ride. If you need proof, just look at the dot-com meltdown of the 90s or the housing crash of 2008. But react to what you almost know is about to happen? This is called being notified. In December, the Federal Reserve released an economic forecast indicating that it could raise interest rates up to three times this year. And let’s face it – there’s only one direction for them at this point.

So the question to ask is, where is the best place to put my money right now, given these expected rate increases and the inflation that is already eating away at cash reserves? To get some insight, we reached out to several financial advisors to see what savvy investors should do. Here’s what they recommend.

1. Equity funds

Most investors who are at least a few decades away from retirement are likely gearing their portfolios towards equities. Fortunately, owning a globally diversified basket of stocks turns out to be a good place to put your dollars when interest rates are likely to rise, says Elliott Appel of Kindness Financial Planning in Madison, Wisconsin.

“When inflation rises, businesses can pass on price increases to consumers, which increases their income,” says Appel. “Over time, this should drive stock prices higher.”

In the stock market, some companies tend to do better when rates rise slightly. Financial institutions have always done well, for example, as have commodities like corn and oil.

Carleton McHenry, a planner in Leavenworth, Washington, says ETFs can be a good way to gain exposure to these commodities, albeit indirectly. For example, he owns the Energy Select Sector SPDR fund (NYSE: XLE), which invests in some of the biggest names in oil and gas exploration, drilling and energy-related services.

You’re not exactly navigating new territory by diverting some of your assets to the fossil fuel industry right now – for example, XLE is up about 50% in the past 12 months as of this writing. . But McHenry sees a good possibility that this growth will continue for some time.

“I would take some of the other areas that may be more growth oriented like technology and reallocate them to an area like this, but I would keep the overall exposure at 10% or less,” he says.

Not all commodities behave the same during a period of rising interest rates, so investors need to do their homework, warns Stephanie McElheny of Aspen Wealth Strategies. “It’s important to research and analyze what might provide the most benefit,” she says.

2. I-Bonds

When property prices begin to rise, investors often seek cover in the form of Treasury Inflation Protected Securities, or TIPS. These government-issued bonds have a few big advantages: they are extremely safe and their principal increases with the consumer price index, or CPI.

But there is another government security that might be even more attractive right now: Series I Savings Bonds. Currently, I-Bonds offer an attractive rate of 7.12% on an annual basis. And, unlike TIPS, I-Bonds cannot fall below their initial value. “That’s not the case for TIPS, which can lose principal in a deflationary environment,” says Greg Plechner of Greenspring Advisors in Paramus, New Jersey.

The I-Bond rate is adjusted twice a year according to changes in the CPI. In the recent past, this has not resulted in astronomical payouts. But with consumer prices continuing to soar, paying for those federally backed notes is starting to turn heads.

Plechner also likes the fact that you can defer paying tax on your interest income until final maturity — that is, in 30 years — or when you choose to redeem your bonds. You can completely exclude interest from your income if you use it for higher education expenses.

Series I bonds are not without limitations, however. You can only buy electronically $10,000 per year from TreasuryDirect – or $5,000, if you use your tax refund to buy them in paper format.

They are not very liquid either. Once you’ve purchased your bonds, you can’t access that money for a full year. And if you decide to sell them within five years, you will have to pay 3 months of interest.

Still, if you have money that you know you won’t need for a while, that’s a relatively minor inconvenience at the moment. “It’s worth it compared to today’s savings rates,” says Derek Hensley, advisor at Sound Stewardship in Overland Park, Kansas.

3. High yield bonds

Most corporate bonds pay a fixed interest rate until maturity, which can lock you into low yields during a time when the Fed is expected to raise rates. But there are several ways to navigate this financial quagmire.

According to Ed Schmitzer, president of River Capital Advisors in Jacksonville, Fla., one way to increase your potential interest payment is to focus on short-term bonds. Once mature, you can use the money to invest in new bonds, which will generally offer a better return after a Fed rate hike.

You can increase your payout potential even further by investing in high yield bonds – sometimes referred to as “junk” bonds. As the name suggests, high yield bond issues offer a more generous interest rate than other forms of debt. There’s a reason for that — they’re offered by companies with lower credit ratings or a shorter borrowing history, so there’s a higher chance they’ll default.

But Schmitzer explains that the level of risk is proportional to the maturity date. So if you focus on the shorter end of the maturity spectrum, you’re on safer ground. “The potential is better than principal and interest being paid over two to four years,” Schmitzer says.

Senior Loans are another option for investors looking for above-average yield, says Jay Lee, founder of Ballaster Financial in Jersey City, New Jersey.. In the event of bankruptcy, issuers must redeem these bonds before their high-yield bonds, making them a good choice for more risk-averse investors. Senior Loans also come with a variable interest rate, so they help families cope with rising rates and inflation.

4. Floating rate bonds

Another option for investors looking to follow inflation? Floating rate bonds issued by corporations or government-sponsored enterprises (GSEs).

Fixed rate securities are great when rates across the economy are stable or falling, but not so much when newly issued bonds offer higher payouts. Variable rate, or “floating” bonds are different. Their interest rate changes according to a specific reference interest rate. So as rates increase in general, the coupon rate you get from the bond also increases.

Appel warns that because floats are a smaller subset of the bond market, investors really need to do their homework before making a purchase. “Every bond is different, which means you have to research the credit quality and the interest adjustment is calculated,” he says.

One way to mitigate your risk is to buy ETFs that invest in these specialty bonds, Appel adds. By spreading your exposure across multiple issuers, you won’t be rolled over if one of them defaults.

5. REITs

The U.S. housing market was absolutely on fire in 2021, and many economists are predicting continued price growth — albeit at a slower pace — in the new year. But owning your own home isn’t the only way to take advantage of soaring prices.

Another option is to divert part of your portfolio to a real estate investment trust. REITs pool money from multiple investors, which they use to buy income-generating properties or mortgages. According to the REIT, it could be a basket of apartments, commercial buildings or healthcare facilities. By law, they are required to transfer at least 90% of their taxable income to investors in the form of dividends.

According to McElheny, REITs can be an effective hedge during periods of rising consumer prices. “In an environment of rising inflation, rents generally tend to rise and landlords are able to charge more,” she says. Much of this additional income is then distributed to shareholders.

That’s not the only way REITs counter the effect of inflation, McElheny says. Over time, inflation erodes the value of any long-term debt the trust carries. If, for example, a particular REIT is carrying $1 million in loans today, ten years from now the value of that debt would be reduced due to the impact of rising prices.

Certainly, current economic conditions will benefit some REITs more than others. This means that investors need to be careful which segments of the real estate market they are targeting. Wells Fargo, for example, now has a “favorable” rating for real estate funds that focus on apartments and single-family homes, but an “unfavourable” designation for office, healthcare and lodging REITs.

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