Research summary

The (unexpected) inflation-fighting power of commodities

January 27, 2023

Investor tools in the fight against inflation
Commodity beta rises during unexpected inflation
How inflation stacks up against key asset classes
A scatter plot shows the relationship of different asset classes in terms of beta and correlation with unexpected inflation. The x-axis is the direction of the correlation, from perfect negative correlation at -1 to perfect positive correlation at 1, and the y-axis is the magnitude of inflation beta between the asset and the unexpected inflation. Historically, bonds have had a negative reaction to unexpected inflation changes, whereas commodities and energy equities are very reactive to unexpected inflation and have inflation betas in the range of 6.6 to 14.2.
Using commodities to construct an inflation-hedged portfolio
Commodities allocation for various risk preferences and inflation conditions
The stacked bar charts show the asset allocation for a strategic 60/40 portfolio targeting various levels of inflation beta. Overall, commodity allocation increases as we target a higher inflation beta. Starting from left to right, Portfolio 1 is a run-as-is allocation for a 60/40 portfolio, meaning there is no constraint on portfolio-level inflation beta. Portfolios 2 through 4 are subject to the inflation beta equality constraints of 0.5, 1, and 1.5. Their commodity allocation increases from 6% to 12.8% to 19.6%. The proportion of U.S. equities and international equities decreases, but most of the replacement comes from U.S. equities.
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Fei Xu
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