The consumer price index (CPI) – the UK’s measure of inflation – has been creeping up over recent months, surging to 1.6 per cent in December, largely driven by increasing fuel and clothing prices.
This marks a distinct turnaround after nearly six years of low inflation, with some industry players warning this could encourage savers to put their money into risky investments.
Michelle McGrade, the chief investment officer at online investment service TD Direct Investing, said while real returns on cash have turned negative and are expected to continue on that path if inflation continues to pick up, a portfolio of diversified assets should help an investor beat inflation over time.
Ms McGrade said one way to inflation-proof a portfolio is by investing in equities, particularly by allocating to companies with pricing power which can offer some protection against inflation.
“Those paying dividends provide a further return, whether you choose to take the income or reinvest it,” she said, recommending Artemis Global Income for global equities and Threadneedle UK Equity Income for access to just UK companies.
She also pointed out that as interest rates rise, banks are likely to recover their margins and become dividend cash cows, meaning investors could benefit from funds which are heavily invested in financials.
Another way to protect against inflation is to invest in index-linked bonds, the TD chief investor said, pointing to the PIMCO Global Real Return fund which can provide global exposure to inflation-protected bonds.
Ms McGrade said allocating to infrastructure fund assets such as toll roads typically have their prices linked to inflation, with the First State Global Listed Infrastructure fund making it to TD’s recommended list.
As inflation can be closely correlated to the price of oil and other commodities, TD said allocating to these sorts of sectors can also help beat inflation.
Ms McGrade pointed out, for example, that oil companies will recover from their earnings slump if oil prices ramp up.
According to TD, the Guinness Global Energy fund and First State Global Resources could be good funds to invest in order to tap into this sector.
Last on the list was investing in exchange traded funds (ETFs) as a way of gaining low-cost access to these asset classes.
Ms McGrade said it has been the steep rise in oil prices, the strength of the US dollar, and the sterling fall in the months after the Brexit vote which have together caused deflation to turn into inflation.
While rising oil prices will further bolster inflation, the CIO said she is not expecting the uncontrollable levels seen in the 1970s.
“The short-term outlook is for a modest rise, so investors should look to invest most of their spare cash, as well as keeping some aside in case of emergencies.
“As ever, it is essential for long-term investors to have a balanced, well-diversified portfolio, whatever the economic backdrop."
TD also said it was important to consider whether asset classes intended to protect against inflation are genuine inflation hedges, and the extent to which asset classes are correlated to each other.
