Inflation's Effects on Asset Returns

The results of a study on asset performance during periods of both low and high inflation are presented in this month’s issue of AAII Journal by Craig Israelsen Ph.D and developer of the 7Twelve Portfolio

The median level of inflation used was 3.29%, as it allowed researchers to divide the 46-year period between 1970 and 2015 in half: 23 years with below-median inflation and 23 years with above-median inflation. Findings showed that during the period of low inflation, large-cap U.S. stocks returned 10.5% (inflation-adjusted) while the same class gained only 4.4% during a high-inflation period. The performance of all seven asset classes studied is illustrated below, and the one thing that really jumps out is the performance of commodities during times of low and high inflation. During periods of low inflation, commodities have a -4% real return, but when inflation is high the commodity complex has produced a real return of 15%. The other observation is small caps tend to do better on a relative basis vs. large caps during times of above average inflation.

table 1

The performance of portfolio types is expanded below:

table 2

The article concludes: “If you believe that inflation will remain low for a very long period of time, stay with a two-asset, 60/40 portfolio. However, if you believe that inflation will rear its ugly head again, it would be wise to build a portfolio that has demonstrated an ability to defend itself against inflation…in short, build a broadly diversified portfolio,” writes Israelsen.