Investors have a lot to grapple with at the moment. Record high inflation has unnerved investors around the world, because not only are stocks falling in price, but bonds are falling as well.
With so much uncertainty, many are now looking for investment strategies that can potentially provide returns that are uncorrelated to major asset classes and to hedge the impact of inflation. Adding alternatives such as real assets to the mix is one such option.
Real assets are the building blocks of productive societies – offering places for people to work and shop, providing essential services such as electricity and water and helping transport people and goods around the globe. They are fundamental to the way we live our lives and are linked to many of the global trends we experience in society every day.
Beyond their tangibility, real assets have inherent protections against inflation through the income they generate, which is often contractual. Inflation mark-ups are written into contracts and therefore they continue to yield a growing, inflation-protected income over time. As such, they aim to provide investors the opportunity for a stable, volatility-reducing income stream, even during levels of high market uncertainty and inflationary risks.
There are a number of trends that investors can tap into across different asset classes that provide portfolio protection against inflation, such as real estate, transportation and infrastructure.
- Real estate: Demand for residential housing remains strong
The pandemic impacted every area of commercial real estate, but some sectors fared better than others. Demand for residential property has been significant, thanks to demographic trends and a growing number of smaller households, particularly in countries such as Japan. As property prices and mortgage rates rise, more households are also likely to rent, rather than buy, sustaining the demand for residential units.
We’ve also seen a flight to quality. In today’s market, many real estate asset owners with high-quality assets will have the flexibility to increase rents at or above inflation.
- Infrastructure: Renewables and utilities offer inflation protection
Infrastructure investments, like utilities and renewables, can also offer a notable degree of inflation protection for investors. Regulated utilities, for example, typically exist within regulatory frameworks that allow for relatively explicit inflation protection by passing through costs and expenses. Similarly, within power generation, a company such as a producer of renewable energy may have contracts in place which allow for inflation indexing or it may benefit from higher market prices that often occur during inflationary periods, providing potential upside.
- Transportation: Long-term lease rates provide inflation correlation
When it comes to inflation, transportation as an asset class probably has the least explicit protection for investors, as lease rates are often fixed throughout their life. That said, over the long term, lease rates have been correlated to inflation when they come for renewal and asset values are also well correlated, owing to replacement values going up when inflation is high. As such, we see transportation as having the ability to provide some inflation protection over the medium to long term.
We believe ‘core’ real assets should continue to offer support, particularly for investors who are looking for income, and a spread of assets that are uncorrelated to each other, and to other financial assets such as stocks and shares. For those looking to potentially cushion the effects of inflation upon their portfolios, investing in real assets offers not only inflation hedging benefits but also access to a broad range of exciting trends across a variety of sectors.
Philip Waller is co-manager of the JPMorgan Global Core Real Assets Trust