Wage inflation remains subdued. Much of the recent anxiety about inflation has focused on two areas: housing and the labor market. On the former, there is some evidence of housing inflation. The Owner Equivalent Rent (the Labor Department’s measure of housing inflation) is at 2.6%, the highest level since the summer of 2008. I believe this reflects a rebound in housing and a growing willingness to rent. However, evidence of wage inflation is more difficult to come by. While most measures of wages have accelerated from last year’s lows, they remain subdued. Hourly wages are rising at 2% year-over-year, consistent with the subdued pace we’ve witnessed since the recession ended. A more complete measure of wages – the Employment Cost Index (ECI) – is growing at 1.8% year-over-year, right in the middle of its post-recession range.
Without more tangible evidence of a pickup in wages, I’d avoid restructuring a portfolio around expectations of imminent inflation. That said, over the long term, investors should be concerned about preserving purchasing power. Unfortunately, some of the traditional inflation hedges are expensive, despite the dearth of imminent inflation signs.
For example, TIPS are barely providing a positive real yield, even before taking taxes into account. And as I recently discussed, while gold and silver both have a place in a portfolio, the potential for rising real-rates calls into question whether now is the right time to add to precious metal positions.
Instead, I’d look to equities to provide a long-term hedge against an eventual pickup in inflation. In particular, I continue to like energy stocks. Despite outperforming year-to-date, the energy sector is one of the few segments of the market that still appears inexpensive. Finally, the sector has an additional benefit: In the past, energy stocks have been one of the better performers when inflation is rising.
Sources: BlackRock, Bloomberg, Citi Investment Research