Stocks as a Hedge Against Inflation

Wherever you turn these days—TV, podcasts, coffee shops—it seems that everyone’s talking about inflation. Is it going up? Is it cooling off? Are we entering the economic Bermuda Triangle known as “Stagflation”? (That delightful combo of high inflation, slow growth, and high unemployment.) And while I’d love to hand you a definitive answer, I’m afraid my crystal-ball is in the shop for repairs. (And apparently, everyone else’s is too.)  However, what I can offer is a breakdown of what inflation is, why it matters, and how to defend your portfolio from its sneaky, long-term effects.

To get the ball rolling, let’s make sure we all know what inflation is in the first place.  At its core, inflation is simply the gradual rise in the prices of goods and services over time. Sounds harmless enough, right?  However, inflation becomes a problem when prices rise faster than your wages, and/or faster than your investments are growing.

If a loaf of bread goes from $4 to $5 (a 25% increase), and your income and investments have also grown by 25% or more, no big deal—you’re keeping pace. But, if the growth of your paychecks or investment portfolios are dragging behind inflation, that same loaf of bread starts to feel as if it belongs in the luxury goods aisle. That’s when inflation really starts to sting.

Inflation is like termites with an appetite for your money: quiet, persistent, and highly destructive over the long-run. As prices climb, the value of your cash savings and fixed-income investments shrink in relative value. At 5% annual inflation, your money loses nearly 40% of its purchasing power in just 10 years.  Fixed-income investments—like bonds—often can’t keep up, either, especially if their returns are stuck in a low-interest-rate rut.

There are several usual suspects when it comes to inflation and rising prices.  Here are some of the most common reasons for inflation.

1. Demand-Pull Inflation – Too many dollars chasing too few goods. This happens when the economy is doing well and people are spending freely.
2. Cost-Push Inflation – When production costs rise (think wages, materials, or energy), businesses often pass those costs on to the ultimate consumers of those goods and services.
3. Monetary Policy & Money Supply – Central banks, like the Federal Reserve, can fuel inflation by printing too much money, or keeping interest rates too low for too long.
4. Supply Chain Disruptions – Wars, natural disasters, or pandemics (sound familiar?) can restrict supply and drive up prices.
5. Government Policies – Big spending and high deficits can overheat the economy, especially if supply can’t keep up with demand.

Among the various investment options available to investors, stocks have historically stood out as one of the best ways to hedge against inflation. When you buy stocks, you’re buying a slice of an actual company that sells goods and/or services to consumers.  And these companies don’t just sit around when prices go up.  Instead, they raise the prices for their products as well. That’s how they maintain (and often grow) their earnings, even when inflation is rearing its ugly head. This ability to adapt means that over time, stocks have historically kept pace with or even outpaced inflation.

Let’s look at a quick hypothetical example of stocks, versus cash or fixed-income investments in an inflationary environment:

• Savings Account (cash) –
  • $10,000 at 2% annual interest = $12,190 after 10 years
  • Adjusted for 5% inflation = $7,485 in today’s dollars
• S&P 500 Investment –
  • $10,000 at 10% annual return = $25,935 after 10 years
  • Adjusted for 5% inflation = $15,920 in today’s dollars

Historically, stock investing has allowed your money to grow faster than inflation eats away at it. Just keep in mind: those returns come with a significant side of volatility. If you’re going to ride the stock market rollercoaster to give yourself the best chance for long-term inflation-adjusted growth, you need to be prepared for some serious ups and downs along the way.

From 1928 to 2023, the S&P 500 has delivered average annual returns of about 10%, including reinvested dividends. Inflation during that time averaged around 3%. That’s a healthy gap in stock’s favor.  Even during tough inflationary periods—like the 1970s—stocks eventually recovered and provided solid long-term inflation-adjusted gains. Sure, it wasn’t always smooth sailing, but they stayed afloat better than most other investments.

Here’s how some other asset classes compare to stocks…

• Bonds –
  Bonds are great for stability, but when inflation rises, their fixed payments lose relative value. Historically, U.S. bonds have returned about 5–6% annually, which drops to 2–3% after inflation.
• Real Estate –
  Real estate can be a decent inflation hedge—especially rental properties. But it comes with baggage: it’s less liquid, capital-intensive, and a lot more hands-on. Plus, real estate’s historical returns of 4–6% annually trail those of stocks.
• Gold –
  Gold shines in uncertain times and has its moments during inflation. But over the long haul, it’s averaged just 4–5% in annual returns. After inflation, that’s only about 1–2%. Not exactly golden performance when compared to stocks.

Simply put, stocks are one of the most effective tools we have available to combat inflation. They give you ownership in companies that can adjust to rising costs, raise prices, and grow earnings—even in tough inflationary times.  Over long periods, stocks have consistently outperformed cash, bonds, real estate, and gold when adjusted for inflation. Yes, they can and likely will be volatile. But with the right strategy and time horizon, they’ve proven to be the most reliable way to grow and preserve your wealth over the long run.

Disclosures

The commentary on this website reflects the personal opinions, viewpoints and analyses of the Topel & DiStasi Wealth Management, LLC employees providing such comments, and should not be regarded as a description of advisory services provided by Topel & DiStasi Wealth Management, LLC or performance returns of any Topel & DiStasi Wealth Management, LLC Investments client. The views reflected in the commentary are subject to change at any time without notice. Nothing on this website constitutes investment advice, performance data or any recommendation that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person. Any mention of a particular security and related performance data is not a recommendation to buy or sell that security. Topel & DiStasi Wealth Management, LLC manages its clients’ accounts using a variety of investment techniques and strategies, which are not necessarily discussed in the commentary. Investments in securities involve the risk of loss. Past performance is no guarantee of future results.