Only a few months ago it was all the rage to fear the end of the financial world as we know it. A popular nightmare scenario featured a deflationary spiral -- a devastating cycle of declines in prices and wages.
Now that the economy is showing signs that it may actually recover, thanks in part to the federal government's massive campaign of fiscal and monetary stimulus, many economists are worried that devastating inflation, not deflation, is in our future.
That would be a challenging experience for investors, especially those who can't even recall the 1970s, when prices last galloped out of control in this country.
"People who are older have a memory of what it was like," said Angela Bordwell, owner of Thrive Financial Alliance, a financial planning firm in Los Angeles. "But younger people, who don't know what to expect, are nervous about it."
Inflation has not yet reared its head, however, and there is no consensus about when it might. In fact, the consumer price index is down 1.3% in the last year, largely because energy and food prices plunged after peaking last summer. And some analysts expect consumer demand to remain weak for years, holding inflation in check and making lower prices the trend to worry about.
But if you believe that the economy is on its way to righting itself and that severe inflation may be the cost of recovery, you might want to think about which sorts of investments could serve as a bulwark of your portfolio. It's possible, experts say, to hedge against rising prices by choosing assets that are resistant to inflation or can even benefit from it. Here's a rundown of what to consider:
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Bond trouble
You might think of U.S. government debt as the safest investment around, and long-term Treasury bonds are indeed a great hedge -- against deflation. But heavy-duty inflation does a number on anyone who owns them, with their interest payments remaining fixed while the cost of living surges. And because higher inflation can sharply boost market interest rates, the market value of Treasuries can tumble in a rising-price environment. Other long-term bonds, including corporate and municipal debt, can suffer a similar fate.
If you already own long-term bonds, shifting into shorter-term debt, such as Treasury bills, or even into bank savings accounts will reduce your exposure to the ill effects of inflation, said Richard Barrington, an analyst at MoneyRates.com.
