Real Assets: Bolstering Portfolios as Inflation Lingers

Adding real assets to a stock and bond portfolio can help boost returns and smooth volatility when inflation runs above 2%.

Developed market central banks have likely reached the end of their rate-hiking cycles, yet a soft landing is far from assured. Looking ahead, two possible alternative scenarios emerge: inflation remains above central bank targets as growth fades into recession, and – potentially more dangerous – inflation rekindles. Amid this uncertainty, we believe it’s critical to design portfolios capable of performing well across a range of inflationary scenarios, which could include an allocation to real assets.

To this end, it is worth examining how adding real assets – which tend to appreciate with inflation – can help improve portfolio resilience. Our analysis starts with a hypothetical 50% stock, 50% bond portfolio and then adds a mix of real assets – Treasury Inflation-Protected Securities or TIPS (10%), broad commodity exposure (5%), and a dedicated gold allocation (2%).1, 2

We then measure the improvement in inflation-hedging properties based on the increase in portfolios’ inflation betas (defined as the sensitivity of an asset’s return to inflation surprises). The initial stock/bond portfolio has an inflation beta of -2.1, while the new portfolio with real assets has an inflation beta of -1.3, meaning that the negative inflation sensitivity was cut significantly with an allocation to real assets.

Not surprisingly, during the recent inflation surge3, the new hypothetical portfolio with real assets outperformed the initial 50/50 portfolio by 62 basis points, with less volatility, over the three-year period that ended 31 December 2023.

Less commonly known, however, is that the benefits of real assets do not require an inflation spike to occur. The inflation-hedged portfolio is generally advantageous even during more mild periods of inflation – when inflation runs at or above the Federal Reserve’s (Fed) 2% target, as we expect it to do this year.