Inflation Portfolio Picks

By James Brumley | August 12, 2010 AAA

With Tuesday's decision to pour even the tiniest amount of extra liquidity into the economic pool that's already brimming with too many dollars, one has to wonder if Bernanke's decision will be the one that tips the scales towards rampant inflation.
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The 'quantitative easing' will only amount to about $10 billion worth of new dollars flowing into the system per month - a virtual drop in the bucket. In fact, it's so insignificant that it's perceived by many to be meaningless, and not really enough to stop the apparent brewing deflation.

However, the inflation argument has never really gone away - it was just displaced in terms of timeframe. The clues are still there though.

Inflation Anyway?
Take the spread between treasuries and TIPS, and the spreads between 10-year and 30-year bonds. The former widened on the Fed's news, while the latter recently widened to all-time record levels. Both suggest an ultimate expectation for inflation.

The Oracle of Omaha agrees that inflation remains the bigger danger; Warren Buffett reeled in much of his longer-term debt holdings, and has replaced them with shorter-term fixed income, despite the deflation chatter. There is, after all, a ton of money still 'out there' on the sidelines (and on banks' balance sheets) which could be put into play at a moment's notice.

In other words, the deflation assumptions may be premature, as conditions are still ripe for inflation.

With that in mind, here are a few ways - with rationales - you can make that inflation work for you.

PowerShares Bearish U.S. Dollar Fund (NYSE:UDN)
Why: One of the critical results of - and ironic causes of - inflation is a devaluation of that economy's currency. In other words, the sawbuck's going to stumble if inflation kicks in. The PowerShares Bearish U.S. Dollar Fund is an easy way to bet against it.

Supervalu Inc. (NYSE:SVU)
Why: The underlying clue here is actually being served up by Wal-Mart (NYSE:WMT). The world's biggest retailer opted to not heavily discount its groceries last month, suggesting that food prices were finally going to catch up with the rest of the commodity market's price increases over the last year or so.

If that's the case, Supervalu may finally be able to stop sacrificing margin for sales, or vice versa. Wal-Mart's been walloping Supervalu on the price front, but relief is in sight.... for the company as well as patient investors.

iShares TIPS Bond Fund (NYSE:TIP)
Why: The obvious answer is the right one.

And finally, what would an anti-inflation portfolio be without a basic material name in it? I can guarantee you I've got one you weren't considering though. Here's a hint..... tiiimmmberrrr.

That's right, wood and timber stocks offer not only an inflation hedge as a commodity, but also have qualities of a consumer staple stock; real timber prices have risen reliably over the long haul, even when other commodities didn't.

The pick of the litter here is Rayonier Inc. (NYSE:RYN). It's not exactly cheap, with a trailing P/E of 14.3, but it's typically good for an earnings 'meet' if not a 'beat'. Plus, the analysts are very lukewarm on it, with an average rating between 'hold' and 'moderate buy'. As you know, that's practically a 'sell' on the skewed buy/sell spectrum the analytical community is still using.

The Bottom Line
I know the deflation arguments are materializing pretty quickly, and they make a lot of sense in most respects. Ultimately though, we all have to recognize that tons of cheap dollars + low interest rates = inflation. If not now, sooner than later. It's not apt to happen while anyone expects it though, which may well mean it's right around the corner. Be ready. (For related reading, take a look at Coping With Inflation Risk.)

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