Is your portfolio inflation-proof? Investments to bolster your returns

Australia has an inflation problem and it’s going nowhere fast. While it’s easy to blame the conflict in Iran and how rising fuel costs have hit the local economy, the truth remains that we had problems long before this.

Australian economic growth has been flagging, the labour market remains tight and productivity is down. There’s a reason the spectre of stagflation has started rearing its head across the financial media landscape. Unfortunately, a resolution in Iran is not going to solve our problems and the RBA has a tough job on its hands with further rate hikes looking increasingly likely.

Last week’s monthly inflation print showed CPI rose 4.6% in the 12 months to March, the highest annual rate since 2023. CPI rose 1.1% in March alone, while trimmed mean inflation was 3.3%.

We can expect more pain to come. AMP’s My Bui recently noted AMP’s expectations for headline inflation to peak above 5% for the June quarter this year and trimmed mean inflation around 4%.

It is a challenging time to be an investor and a consumer. However, it’s also a time to hark back to the fundamentals and take note of history for investments that can act as ballast in these periods.

The rules of inflationary investing

As the saying goes, History may not repeat but it often rhymes. That is, in some ways, good news when it comes to investing in cycles because traditional wisdoms can be used again.

Some of the rules for inflation include looking for:

1. Pricing power: strong businesses with good franchises have the ability to pass on inflation in their pricing to consumers.
2. Low debt: rising inflation often comes with rising rates. Companies with low debt will be less impacted by the need to service higher loan repayments. Better yet if they have a solid balance sheet with cash on the books to service ongoing development and take advantage of opportunities that other more cash-strapped businesses may not be able to.
3. Contracts linked to rates or inflation: typically, infrastructure and utilities businesses have stable contracts with inflation pricing built into them, providing them with an ongoing buffer in these periods.
4. Essential providers: When times get tougher for consumers, they’ll cut back on certain things but will avoid cutting back on essentials like electricity, telecommunications and groceries unless they really have no other choice. This means certain industries, like consumer staples, energy or healthcare, are considered defensive and can be a great starting point for a stock hunt.

In this particular period of inflation, an oil crisis driven by the conflict in Iran has added to inflationary pressure. This means that oil and energy providers have a particular advantage – noting that even if the Strait of Hormuz fully reopens and the conflict ends, supply issues will remain for many months, pushing prices upwards.

The volatility in the current market, along with inflation, is starting to drive a switch to value rather than growth-based businesses. Investors are focusing on quality and looking for undervalued picks to bolster their portfolios in this volatile period. 

You can read more about the switch in this piece by VanEck’s Anna Wu and for a focus specifically on value, you’ll find some ideas for research based on Morningstar’s latest value report and Market Index’s low P/E list.

While value is one aspect of investing during periods of high inflation, it isn't the only story. Sometimes investors will pay a premium for stocks that meet other criteria to bolster their portfolios.

Investments to meet the inflation-proof rules

Based on tradition, you might look at the following types of investments to manage inflation in a portfolio:

• Defensive sectors including infrastructure, utilities, healthcare, consumer staples, energy and select telecommunications.
• Inflation-linked bonds
• Commodities, with gold a specific inflation hedge.

Based on this, a few defensive names to get you started might be:

• Infrastructure: Transurban (ASX: TCL), Qube Holdings (ASX: QUB), Atlas Arteria (ASX: ALX), Dalrymple Bay Infrastructure (ASX: DBI) or Aurizon (ASX: AZJ).
• Utilities: APA Group (ASX: APA), AGL Energy (ASX: AGL), Origin Energy (ASX: ORG)
• Healthcare: Sigma Healthcare (ASX: SIG), Ramsay Health Care (ASX: RHC), Fisher & Paykel Healthcare (ASX: FPH) and ResMed (ASX: RMD)
• Consumer staples: Woolworths (ASX: WOW), Coles (ASX: COL), Wesfarmers (ASX: WES) and Metcash (ASX: MTS).
• Energy: Woodside Energy (ASX: WDS), Santos (ASX: STO), Whitehaven Coal (ASX: WHC), Ampol (ASX: ALD)
• Telecommunications: Telstra (ASX: TLS), TPG Telecom (ASX: TPG), Tuas (ASX: TUA)

Keep note in the above that Atlas Arteria recently received a takeover bid from IFM Investors.

Banks can benefit from rising rates, but Australian banks have been trading on elevated P/E ratios and may face margin pressure in a tougher economic environment, particularly given their exposure to residential property.

If you were to look at ETF options for broad exposure to defensive names, there are passive options to research such as Vanguard Global Infrastructure ETF (ASX: VBLD), Betashares Australian Quality ETF (ASX: AQLT) and VanEck Global Healthcare Leaders ETF (ASX: HLTH) or actively managed options such as Antipodes Global Value Active ETF (ASX: AGX1), Resolution Capital Global Listed Infrastructure Fund – Active ETF (ASX: RIIF) or Clearbridge Global Infrastructure Value Fund Active ETF (ASX: CUIV).

For inflation-linked bonds, some examples to consider include the iShares Government Inflation ETF (ASX: ILB) and the Betashares Inflation-Protected US Treasury Bond ETF (ASX: UTIP).

Some commodity ETF options to look at include Global X Physical Gold (ASX: GOLD), Betashares Crude Oil Index ETF – currency hedged (ASX: OOO) and Global X Bloomberg Commodity ETF (ASX: BCOM).

Investments the experts are backing

When it comes to expert management, some are looking beyond traditional areas.

For example, Morgans’ Andrew Tang pointed to high quality tech and software, alongside traditional picks like banks and diversified financials as being insulated from inflation. While technology and software are usually considered growth stocks, many high-quality names have built strong moats and pricing power. Some he liked included WiseTech Global (ASX: WTC) and Technology One (ASX: TNE). A more unexpected idea was Eagers Automotive (ASX: APE) and he highlighted the partnership Eagers has with BYD.

QVG’s Josh Clark also referenced WiseTech as an opportunity and has been adding to his position.

Datt Capital’s Emanuel Datt named Ampol and Viva Energy (ASX: VEA) as his picks for a buffer in the energy space, while Alvia Asset Partners’ Chris Scarpato identified Aurizon, Woodside Energy, ServiceNow (NYSE: NOW), Constellation Software (TSE: CSU), Ramsay Health Care, ResMed and Deterra Royalties (ASX: DRR) as stocks to watch built around inflation resilience, pricing power and second-order AI opportunities.

Morningstar nominated Atlas Arteria as an oversold opportunity (be wary of the takeover), SGH (ASX: SGH) due to its servicing of mining, construction and infrastructure industries along with highlighting that Computershare (ASX: CPU) typically receives a tailwind from higher rates (a side effect of higher inflation).

In Wilson Asset Management’s recent roadshow (as discussed in this wire by Stephanie Gardner), Matthew Haupt views liquefied natural gas as an opportunity from the conflict in Iran and is playing this via Woodside Energy and suggested Macquarie Group (ASX: MQG) would benefit in its commodities exposure. 

Catriona Burns is focusing on AI and infrastructure, looking at Goodman Group (ASX: GMG), TSMC (TWSE: 2330), ASML (NYSE: ASML) and Synopsys (NASDAQ: SNPS).

Oscar Oberg pointed to some less expected stocks – Cobram Estate Olives (ASX: CBO) and Bega (ASX: BGA) focusing on consumer eating trends.

Geoff Wilson AO is also focused on an AI infrastructure slant, picking NextDC (ASX: NXT) as an opportunity due to its high quality of infrastructure. He views Stockland (ASX: SGP) as an inflation opportunity.

The final word on inflation-proof?

Building inflation resilience is not just about finding individual stocks or investments, it’s about thinking through cycles and the bigger picture. You can’t avoid some volatility and movement in your portfolio and it’s important to be diversified across sectors, regions and assets.

Value might be having its time now, but that doesn’t mean you should back out of growth – markets are cyclical after all. Remember your investment strategy and where you do add inflation picks, make sure they fit within your overall strategy and portfolio.