Securitize Logo

Alternative Asset Allocation for Hedging Inflation

Perspectives from History, Music, and Macroeconomics

by Alex Broudy, Technical & Financial Writer
Dec 20, 2021

For experienced and institutional investors, outpacing inflation has been top of mind lately. In the following article, we will review alternative asset allocation strategies for volatile markets.

Storied Inflation

Inflation typically reaches a crescendo before reorienting consumers to spend less on non-essential goods and services. In response to reduced spending, economic volume and overall performance temper. But that’s only part of the story.

Institutional investors often anticipate this behavior because it tends to happen in cycles; lately, something has been offbeat.

At the end of 2021, we live in a world punctuated by inflation and divergent expectations. Like a game of musical chairs interrupted by the scratching of a record, our macroeconomic cycle has lost its cadence. This punctuation affects everyday life and investment plans for the future. More pointedly, it reorients institutional investors to favor alternative assets as potential inflation hedges.

Preparing for Inflation

When the record scratches, it’s time to rearrange the chairs and focus on investments marked by their uniqueness and a low correlation to other asset classes.

Allocating capital to low-correlation assets has historically helped investors weather inflationary storms. This conservative strategy often includes an allocation to U.S. bonds, treasuries, and other fixed-interest instruments to balance out riskier investments elsewhere. While fixed-interest investments usually occupy 40% of a balanced portfolio, times are changing.

Stalled Logic

Using bonds to generate passive income has helped investors achieve risk-adjusted returns for hundreds of years. The logic behind a 60/40 equity-bond blend is that earning fixed-interest income will help offset volatility in the face of unanticipated economic outcomes. For instance, when inflation spikes bond yields typically follow suit, providing earnings potential which may have otherwise depreciated.

But bonds are losing their ballast.

The sheer volume of cash, record low interest rates, and a strong dollar have diminished the value proposition of fixed-interest investments like bonds and 10-year Treasury notes, which currently yield less than 1.5%.

With inflation reaching 6.8% in Q4 2021, the other 60% of investors’ assets need to outperform fixed-interest investments to achieve meaningful returns. Bond yields faltering despite inflation indicates that the logic behind this bellwether asset allocation may be stalling out. As a result, investors will look to both low-correlation and risk assets to close the delta between low yields and high inflation.

Persisting Inflation

When transitory inflation persists, sophisticated investors look out the risk curve to outpace the hidden costs of currency devaluation. Investors saw this scenario play out in late 2021 when markets shot higher as a risk-on sentiment returned in the face of the Covid-19 Omicron variant.

What has been slightly more difficult to see is how alternatives perform under pressure. This is largely because private companies have different reporting standards than public companies. Recent technological advances like digital asset securitization have enabled investors to gain greater insight into private markets. As digital-first issuance increases transparency across the entire trade cycle, investors will continue to attain valuable insight into real-time price action.

Gleaning Value

Private markets have long offered accredited and institutional investors exposure to alternatives, outperforming the S&P 500 by more than 70%,1 and growing twice as fast as public equities.2 Securitize makes gauging alternative asset performance simple with an easy-to-read dashboard featuring real-time tokenized fund insights.

In late 2021, we saw an uptick in low-correlation assets like wine, whisky, and art.

For investors looking for the best of both worlds, digital assets like bitcoin feature risk-on attributes with long-term inflation hedge potential while digital asset securities provide low-correlation exposure to alternative assets like commodities and real estate.3 When combined, investors can achieve balanced risk, reward, and performance insights.

Given its blistering 12-year upward trajectory and recent public market accessibility, many will consider allocating capital to digital assets like bitcoin for the first time in 2022.

Realizing Potential

The responsibility of central banks and fiscal authorities around the world is to keep their economy on track through good times and bad. In situations of deficit overheating, central banks will typically cool the economy by raising interest rates, bringing inflation down over time. With new unemployment claims nearing pre-pandemic lows and the Federal Reserve recently pulling rate hikes forward into 2022 and 2023, we can expect some moderation moving forward.

When inflation soars, another way the macroeconomic cycle gets back on track is by bringing down the cost of labor through technological innovation. In this scenario, economies move down and to the right on the BBNN model of economic disequilibrium, increasing domestic aggregate demand and pulling the labor market into a new state of normalcy with inflation-adjusted wages. This technology-driven change also affects markets.

Emerging technologies like blockchain and distributed computing systems are beginning to make significant impacts on the global economy, already facilitating more efficient trading for oil and gas, real estate, and digital assets.

And now blockchain technology is helping wealth management realize even greater potential with new digital asset security offerings like the S&P’s first-ever tokenized fund to track digital assets, the Securitize S&P Cryptocurrency Large Cap Ex Mega Tokenized Fund.4 Using blockchain technology enables this new financial instrument to provide investors with an efficient and economical investment experience, something with which legacy financial infrastructure often struggles.

Moving Forward

What might this change look like moving forward?

Due to their limited supply and persistent demand, digital assets like bitcoin have inflation hedge potential. As more institutions’ expressed interest in digital assets and digital asset securities is realized, the emerging asset class will mature in value and utility. Yield earning potential for bitcoin will supplement dividends in a balanced portfolio and start to reduce the common reliance on bonds as an inflation hedge.

This change is not inevitable. It is one of many outcomes. The way history is shaping up, however, seems to be nudging the record back on track, pulling economies ahead as we settle back into a world rapidly accelerated by technological innovation. Investors should take note and allocate accordingly.5

© 2022 Securitize, LLC
All rights reserved
info@securitizemarkets.io
1:

American Investment Council: Correcting the Record – Private Equity Has Outperformed for Pension Funds and Other Investors.

2:

Private markets come of age: McKinsey Global Private Markets Review 2019.

3:

The performance of commodity investments depends in substantial part upon often-unpredictable extrinsic market forces, including without limitation supply and demand, international monetary markets, inflation, and general economic conditions and expectations. The impact of these forces, or any of them, on the values of precious metals, cannot be predicted with any degree of certainty. The customer acknowledges and understands the precious metals market(s) can be volatile and that prices may rise or fall over time, and that past performance is no indication of future performance. Moreover, precious metals are not suitable investments for anyone seeking current income.

4:

The S&P Cryptocurrency Large Cap Ex-MegaCap Index is a product of S&P Dow Jones Indices LLC (S&P DJI), and has been licensed for use by Securitize Capital. S&P® is a registered trademark of Standard & Poor’s Financial Services LLC or its affiliates (“S&P”); Dow Jones® is a registered trademark of Dow Jones Trademark Holdings LLC (“Dow Jones”); and these trademarks have been licensed for use by S&P DJI and sublicensed for certain purposes by Securitize. The Securitize S&P Cryptocurrency Large Cap Ex Mega Tokenized Fund based on the S&P Cryptocurrency Large Cap Ex-MegaCap Index is not sponsored, endorsed, sold or promoted by S&P DJI, Dow Jones, S&P, or their respective affiliates, and none of such parties makes any representation regarding the advisability of investing in such products.

5:

There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio.

Check the background of Securitize Markets on Finra BrokerCheck.

Securities are offered through Securitize Markets, LLC, (“Securitize Markets”) a registered broker-dealer and member FINRA/SIPC. Neither Securitize Markets, nor any of its affiliates provide any investment advice or make any investment recommendations to any persons, ever, and no communication through herein or in any other medium should be construed as such. Securities offered on the Securitize Markets ATS have not been registered under the Securities Act of 1933 and may not be offered or sold in the United States absent registration or an applicable exemption from registration requirements. Assets listed herein, such as digital assets or tokens using blockchain, are speculative, involve a high degree of risk, are generally illiquid, may have no value, have limited regulatory certainty, are subject to potential market manipulation risks and may expose investors to loss of principal. Investments in private placements, start-up investments in particular, are also speculative and involve a high degree of risk. Investors must be able to afford the loss of their entire investment. Eligibility to buy and sell securities on the Securitize Markets ATS is determined by Securitize Markets in its sole discretion. Offers to sell, or the solicitations of offers to buy any security can only be made through official offering documents that contain important information about risks, fees and expenses associated with the applicable securities available for trading on the Securitize Markets ATS. Investors should conduct their own due diligence, not rely on the financial assumptions or estimates displayed herein, and are encouraged to consult with a financial advisor, attorney, accountant, tax advisors, and any other professional that can help you to understand and assess the risks associated with any investment opportunity. Past performance is not indicative of future results. Neither the Securities and Exchange Commission nor any federal or state securities commission or regulatory authority has recommended or approved any investment or the accuracy or completeness of any of the information or materials provided herein or through any references/links herein. Any financial projections or returns shown herein are provided by the issuer of the relevant security and Securitize Markets has not verified the accuracy. Further, there can be no assurance that any valuations provided by issuers are accurate or in agreement with market or industry valuations. Securitize Markets and its affiliates make no representations or warranties as to the accuracy of such information. Securitize Markets may collect certain information about you that helps us comply with various securities regulations and rules and the USA PATRIOT Act, a Federal law that requires all securities firms to obtain, verify, and record information that identifies each applicant. The information also helps us more fully understand your investment profile and identify what types of investments or strategies may be suitable for you. The term “Investors” used on this website, typically refers to accredited investors where applicable. Please note: if we cannot verify the information you provide, we may be required to restrict or deny your account. Trading during Extended Hours Trading Sessions carries unique risks, such as greater price volatility, lower liquidity, wider bid/ask spreads, and less market visibility, and may not be appropriate for all investors. There is no guarantee that a diversified portfolio will enhance overall returns, outperform a non-diversified portfolio, or prevent against loss. By accessing this site and any pages thereof, you agree to be bound by our Terms of Service and Privacy Policy.