Exotic Inflation Hedges

[Closet_Gamer]

Warning:

I'm starting this thread for fun. The approaches discussed are not ideas typical investors should seriously consider let alone actually execute. This is intended for the finance geeks who like thinking about/discussing this stuff.

With that disclaimer out there...

I've made a couple of posts about the potential for substantial inflation but don't want to derail those threads with this topic.

(https://www.early-retirement.org/fo...ion-is-here-to-stay-109440-4.html#post2616686)

The constant theme, however, is that we don't really know.

So, I started thinking about exotic approaches to inflation protection. Not run of the mill asset allocation type stuff, but positions designed to deal with a severe inflation.

Crypto is often discussed as a new vehicle for hedging inflation, but I feel the sheer volatility and uncertainy would compound rather than hedge risk.

But using derivatives, maybe amped up with leverage, could create positions where you're likely to lose a relatively small amount of money but if you win, you can win big.

Rather than buying and holding assets with the intent of hedging inflation, which ties up loads of money for a long time, this could be an opportunity to use LEAP calls on ETFs that are likely to rise in the face of inflation.

Candidates

GLD (Gold)
XLRE (Real Estate)
VXUS (International)
VWO (emerging markets)
TIP (TIPS bonds)

You might also go for LEAP puts on long duration bond ETFs.

If you wanted to really go for it, perhaps a Pledged Asset Line or HELOC would be a vehicle to fund this. A 2-3% APR loan would allow you to tie up very little money at low carrying cost that could be used to buy the derivatives. Of course the hurdle rate for success goes up, but you would be buying things that are well out of the money anyways as we're looking to address severe inflation as a specific outcome.

Alternatively, you could sell derivatives on existing assets to fund the LEAP calls.

Curious if anyone else is thinking about this stuff?

 

[pjigar]

I have picked physical gold as a hedge.

 

[LiveBelowMeans]

I like oil. I hold BP, and RDS-B. Get a nice dividend while you wait. Jmho

 

[ERD50]

My inflation hedge is to hold an ~ 70/30 AA. And maintain a conservative average WR. And delay SS (which is inflation protected).

A 70/30 AA isn't a direct inflation hedge per se, but over time (at least historically) the gains in stocks provide a buffer to carry you over periods of high inflation. I probably should add iBonds to the mix, been too lazy.

It's worked in the past. May or may not work in the future, but that's probably true of just about everything.

-ERD50

 

[pb4uski]

It seems that LEAP calls on the iShares TIPS Bond ETF (ticker TIP) might work. Not sure if the economics would be attractive or not though.... that would require more effort than I'm interested in putting into it right now.

I don't know much about that TIP fund but I assume that it would increase with inflation less the ER.... perhaps there might be an index that is raw inflation not related to any real underlying that they sell LEAP calls on similar the the way they sell LEAP calls on SPX and VIX.

 

[Sunset]

My ideas are:

• Delay SS until age 70 for the maximum as it's inflation protected.
• Have property in another country. (issues of maintenance and renting it)
• Hold money in another country (problems with investment and Treasury reporting)
• Mortgage my properties to raise cash to invest in stock, as the mortgage rates are low and properties will inflate faster in future.
• Yesterday I figured I might as well buy the $10K limit at treasury direct.

I have kept my XLE , that I was considering selling a few months ago as now it seems worthwhile to keep.

 

[Closet_Gamer]

It seems that LEAP calls on the iShares TIPS Bond ETF (ticker TIP) might work. Not sure if the economics would be attractive or not though.... that would require more effort than I'm interested in putting into it right now.

I don't know much about that TIP fund but I assume that it would increase with inflation less the ER.... perhaps there might be an index that is raw inflation not related to any real underlying that they sell LEAP calls on similar the the way they sell LEAP calls on SPX and VIX.

Thanks. Interesting point about a raw inflation index. Hadn't though to that.

Will research.

 

[daylatedollarshort]

Our inflation ideas include an asset matching strategy; individual TIPS; low, fixed rate mortgage offsetting mostly non-COLA pensions; and low fixed overhead. There is a saying about freedom is low overhead, but in some ways I think that holds true for freedom from inflation worries as well. The lower your expenses, the less they are going to increase during periods of high inflation. Like if electric rates increase, the household using 20 kwh a day is going to be hit harder than one using 7 kwhs, especially in areas with tiered pricing. I try to tackle some projects to lower our recurring costs every month, so our personal expenses go down much more than the CPI goes up every year. So far this year I put in a new low flow showerhead to save on gas and water; signed up for senior discount ride share and public transportation passes available in our area; learned how to make my own almond milk; refinanced when mortgage rates dropped; DH found a local hair place that charges half of what he used to pay and we still have along list of projects to go. It is probably not to exotic but has a high probability of success.

 

[pjigar]

I try to tackle some projects to lower our recurring costs every month, so our personal expenses go down much more than the CPI goes up every year.

I have been doing this for some time and this year we were able to make the biggest dent:
1. Moved from a McMension to a modest farm property.
2. Sliced the property taxes of the farm property by half: Qualified for the agricultural valuation.

Now that we have room to do more projects, there are several things we can do to reduce recurring costs over time.

When you are trying to reduce the recurring costs, remember a quote I read a while back: Focus on what matters. i.e. focus on the big ticket items first.

 

[yhoomajor]

XLB

 

[finnski1]

It seems that LEAP calls on the iShares TIPS Bond ETF (ticker TIP) might work. Not sure if the economics would be attractive or not though.... that would require more effort than I'm interested in putting into it right now.

I don't know much about that TIP fund but I assume that it would increase with inflation less the ER.... perhaps there might be an index that is raw inflation not related to any real underlying that they sell LEAP calls on similar the the way they sell LEAP calls on SPX and VIX.

I've looked at the TIP LEAPS a little bit myself.
Right now TIP is about 127.2 The long options for say Jan 2023 at the 128 strike last closed at $3.70. So would need TIP to rise about 3.5 % just to break even. All of the TIP options have virtually no interest. I don't think this option traded any volume at all yesterday and the open interest on these is only 36 contracts.
There is virtually no liquidity in this right now. TIP itself moves slowly (up about 5% in the past year) for now.
Having said all that this might be the time to buy that LEAP precisely because of all those things and that apparently no one wants it right now.

When people start wanting it you may miss a big portion of the jump.


And as usual, I have no clue where TIP or inflation may be by Jan 2023.
Also how much would you have to employ to be effective. Let's say you wanted to protect 1 million dollars. It would cost you approx 35k in premiums to be "protected for the next 19 months or so. If you were spending 40k per year out of a 1 million dollar pot, your wr would go from 4% to (4+3.5*12/19) about 6.2% just to cover. I realize it's
"insurance" but there is a significant price to pay for that.

 

[Closet_Gamer]

I've looked at the TIP LEAPS a little bit myself.
Right now TIP is about 127.2 The long options for say Jan 2023 at the 128 strike last closed at $3.70. So would need TIP to rise about 3.5 % just to break even. All of the TIP options have virtually no interest. I don't think this option traded any volume at all yesterday and the open interest on these is only 36 contracts.
There is virtually no liquidity in this right now. TIP itself moves slowly (up about 5% in the past year) for now.
Having said all that this might be the time to buy that LEAP precisely because of all those things and that apparently no one wants it right now.

When people start wanting it you may miss a big portion of the jump.


And as usual, I have no clue where TIP or inflation may be by Jan 2023.
Also how much would you have to employ to be effective. Let's say you wanted to protect 1 million dollars. It would cost you approx 35k in premiums to be "protected for the next 19 months or so. If you were spending 40k per year out of a 1 million dollar pot, your wr would go from 4% to (4+3.5*12/19) about 6.2% just to cover. I realize it's
"insurance" but there is a significant price to pay for that.

Thanks. Good insights.

Agree, getting insurance at the right price is the trick and the lack of liquidity is the issue, which makes finding the right security to option all the more important.

 

[Closet_Gamer]

XLB

Thanks. Interesting approach.

Checked on the options...thinly traded but they are traded. Price would be everything (obviously).

 

[Chuckanut]

Back in the 1970's when inflation was raging at or near double digits I remember Forbes magazine ran a cover story that showed golden ice cubes melting away in the hot climate of risky inflation hedges. They asked the question "Is losing money on risky inflation hedges a good way to preserve your assets?" or something like that.

There is no magic way to inflation proof one's assets if inflation takes off. But, losing money on so-called inflation hedges like gold, rare coins, art, crypto currencies, foreign real estate etc. is not my idea of a great way to fight inflation. My 2¢. Take what you wish and leave the rest.

 

[Hamlet]

Well, every collectible market I follow seems to be very hot. Key comic books, sports cards, whiskey, you name it, it has gone up a lot in the last few years. The acceleration at the beginning of this year was somewhat breathtaking for many of them.

I doubt that a lot of these prices are sustainable, to be honest, but if I wanted to hedge against inflation outside of the normal standbys, I would look to buy high quality durable items in a collectible field I understand at least a little ( at what I feel is a rational price, of course). For me that would be comics and whiskey. For others it might be guns or antiques or coins or art or video games or magic cards or paper back books. Just don’t be the new guy chasing stuff he doesn’t really understand.

 

[daylatedollarshort]

We're refinancing for the second time this year with a no point, no cost loan. I know not everyone is a fan of mortgages in retirement, but locking in rates well under 3% seems like a good inflation hedge to me. If rates go down you can always refinance again with a no cost loan or pay off the loan, and if they go up an under 3% loan is going to be a 30 year lasting great deal.

 

[sengsational]

We're refinancing for the second time this year with a no point, no cost loan.

You went from paid-off house to cash-out refi? That seems like a reasonable approach, but what do you do with the money? Just balance to your AA target?

 

[corn18]

I'm having a hard time finding a chart that indicates gold is a good inflation hedge. Since the gold standard was abandoned, there is one period of high inflation and gold was a good hedge then. Since then, there is no correlation with inflation. I'm not sure I'm willing to buy gold based on one data point.

 

[braumeister]

Platinum and palladium might be better hedges, and if worse came to worst you could always go into the cold fusion business.

 

[38Chevy454]

I'm having a hard time finding a chart that indicates gold is a good inflation hedge. Since the gold standard was abandoned, there is one period of high inflation and gold was a good hedge then. Since then, there is no correlation with inflation. I'm not sure I'm willing to buy gold based on one data point.

I think what the reason for what you are seeing is that gold is not really an inflation hedge in itself, but rather a measure against the value of the US dollar. Especially as compared to other currencies. The US $ has been basically strong for a while now vs other currencies; although all have done a lot of money printing and debt spending. The US is not alone in that. All of which means that price for gold has risen as well no matter what currency is used. While inflation has been low during this past 20 year period. I do think increasing inflation is here and we will know the extent in hindsight better than in forecasts. If the value of the US $ really decreases, then it takes more US $ to buy the same gold. So in that consideration, the gold is a hedge against inflation, but since it is tied to the currency, gold may not really be worth more, it just has (IMHO) a near constant base value that can be converted to the US $ at the prevailing rate. In other words, the gold might keep you from losing money, but it is not really an increase in your money.

 

[corn18]

I think what the reason for what you are seeing is that gold is not really an inflation hedge in itself, but rather a measure against the value of the US dollar. Especially as compared to other currencies. The US $ has been basically strong for a while now vs other currencies; although all have done a lot of money printing and debt spending. The US is not alone in that. All of which means that price for gold has risen as well no matter what currency is used. While inflation has been low during this past 20 year period. I do think increasing inflation is here and we will know the extent in hindsight better than in forecasts. If the value of the US $ really decreases, then it takes more US $ to buy the same gold. So in that consideration, the gold is a hedge against inflation, but since it is tied to the currency, gold may not really be worth more, it just has (IMHO) a near constant base value that can be converted to the US $ at the prevailing rate. In other words, the gold might keep you from losing money, but it is not really an increase in your money.

Maybe you're right. I dunno. But if gold really were an inflation hedge, the real price of gold should be fairly flat. It is not. Not even close. The attachment is the real price of gold. If people are keen it to hedge inflation and that's why it has skyrocketed in the last 20 years, they all got it horribly wrong. If it went from nearly zero before the 80's inflation to $2,200 in real dollars during very high inflation, where can it go now if we get inflation now that gold is back to those record high real values? From $2,200 real to $200,000 real? Maybe the goal is just to not have it erode in value if we get high inflation. I would think TIPS or iBonds might be better for that. Gold just seems to have uncorrelated volatility that I don't care for.

 

[38Chevy454]

Maybe you're right. I dunno. But if gold really were an inflation hedge, the real price of gold should be fairly flat. It is not. Not even close.

Maybe the differences can also be explained by supply/demand? If people think that gold is the desired investment, more demand will drive up price. Not sure if that alone can be responsible for the variance though.


FWIW, I am not a gold or precious metals investor. I am a strong believer in the equity market and stocks. I was 100% stocks when in working and saving mode, and only right before retirement put some into fixed income side allocation. Although I struggle currently with what to invest in the fixed income side since all the options seem so poor. I do know that I won't buy gold or other precious metals. If I really wanted to be speculative, I would buy mining royalties rather than the precious metals themselves.

 

[corn18]

Maybe the differences can also be explained by supply/demand? If people think that gold is the desired investment, more demand will drive up price. Not sure if that alone can be responsible for the variance though.


FWIW, I am not a gold or precious metals investor. I am a strong believer in the equity market and stocks. I was 100% stocks when in working and saving mode, and only right before retirement put some into fixed income side allocation. Although I struggle currently with what to invest in the fixed income side since all the options seem so poor. I do know that I won't buy gold or other precious metals. If I really wanted to be speculative, I would buy mining royalties rather than the precious metals themselves.

I like having these discussions as I am neutral on gold. I bought $150k of gold eagles back in 2019 but cnx the order prior to shipment because I couldn't figure out where to store it. Been watching it closely since then.

 

[ncbill]

What I learned about selling the antique furniture mom had accumulated over 30 years is that you'd better be a dealer if you want to make money on those, or art, or coins.

Got about $30,000 for the above 20+ years ago (cost basis over $100,000) but today would get only a fraction of that.