How to Use ETFs to Hedge 3 Inflationary Risks
April 28th 2010 at 6:00am by Tom Lydon
All the government spending and record-low interest rates have certainly helped right our listing economy. But as the stimulus winds down and interest rates go back up, you’ll want to have some exchange traded funds (ETFs) at the ready to protect your portfolio.
The bulls are out in full force, and it doesn’t just signal that we’re all feeling a little better about the U.S. economy than we had been. It also means that at some point, sooner than later, stimulus will wind down, interest rates will go back up and inflation may become a reality we need to deal with. [5 ETFs to Fight Inflation.]
James Kostohryz for Minyanville has a few observations on the inflationary risks we could be looking at sometime this year.
- Commodity price risks: The quickest inflation risk that could be seen is in commodity prices. The costs of copper, oil and steel could rise through the roof. On top of that, more global growth could further heighten demand for these commodities. Hedge It With: Commodity ETFs. If commodity prices rise, you can benefit from locking in the lower prices now (just be sure that the trend is there, of course). Some funds to think about include: First Trust ISE Global Copper Index (NASDAQ: CU), Market Vectors Steel (NYSEArca: SLX), United States Oil (NYSEArca: USO) and SPDR S&P Metals & Mining (NYSEArca: XME). [The Bullish Case for Silver ETFs.]
- The Consumer Price Index (CPI): Core inflation, excluding food and energy, should grow to between 3% and 4% a year for the next decade, as long as the U.S. economy grows. The broad CPI, which includes food and energy, may average between 4% and 5%. We may even see brief spikes around 8%. Hedge It With: Look for ETFs that hold agriculture, as well as bearish U.S. dollar ETFs and TIPS funds. This can help protect against eroding purchasing power. Some funds to think about include: PIMCO Broad U.S. TIPS (NYSEArca: TIPZ), SPDR Barclays Capital TIPS (NYSEArca: IPE), PowerShares DB U.S. Dollar Bearish (NYSEArca: UDN), PowerShares DB Agriculture (NYSEArca: DBA), iPath DJ-UBS Agriculture (NYSEArca: JJA) and UBS E-TRACS CMCI Food (NYSEArca: FUD).
- Risks from U.S. Treasury Bond market: As interest rates rise, it’s going to hit long-term Treasuries in the form of lower prices and higher yields. It’s predicted that 10-year U.S. Treasury yields will be between 5-6.5% and possibly higher. At this rate, it may be time to start thinking about short-term and international bonds, such as PIMCO 1-3 Year Treasury (NYSEArca: TUZ), ProShares UltraShort 20+ Year Treasury (NYSEArca: TBT), iShares Barclays 1-3 Year Treasury (NYSEArca: SHY) and SPDR Barclays Capital Short-Term International Treasury Bond (NYSEArca: BWZ). [Bonds Were Hot in Q1, But Watch Out.]
For more stories about bond ETFs, visit our bond ETF category.
For full disclosure, Tom Lydon’s clients own shares of XME.
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.