September 7, 2021 | Vanguard Perspective

How commodities stand apart as an inflation hedge

Financial markets expect a certain level of inflation and factor it into the asset prices they set, a condition theoretically neutral for investment portfolios. Unexpected inflation, on the other hand, can erode portfolios' purchasing power, a challenge especially for investors with a shorter investment horizon, such as retirees.

Do certain asset classes weather unexpected inflation, like we've seen recently, better than others? Recent Vanguard research suggests that commodities stand apart as a vehicle for hedging against unexpected inflation.

Over the last three decades, commodities have had a statistically significant and largely consistent positive inflation beta, or predicted reaction to a unit of inflation. The research, led by Sue Wang, Ph.D., an assistant portfolio manager in Vanguard Quantitative Equity Group, found that over the last decade, commodities' inflation beta has fluctuated largely between 7 and 9. This suggests that a 1% rise in unexpected inflation would produce a 7% to 9% rise in commodities.¹

Commodities’ inflation-hedging power has been strong and consistent

Notes: The blue line represents the rolling 10-year beta to unexpected inflation of the Bloomberg Commodity Index. The chart's shading reflects the significance of the inflation beta, with darker shades corresponding to greater significance. Inflation beta significance is a statistical measure determined by both the magnitude and volatility of the beta. Inflation beta with greater significance has a larger potential impact as a hedging mechanism.