Investing in Inflation Protection
Anand S. Iyer and Jennifer C. Bender/MSCIBarra/Nov 2010
The current tug of war between inflation and deflation has created considerable confusion for investors. Consequently, in this report we explore the characteristics of inflation-protected bonds [IPBs] to see if, and to what extent, these securities have contributed to portfolio diversification and provided investors with protection from inflation and deflation… We find that IPBs have exhibited some distinct differences from other asset classes during the past decade:
1) IPBs as an asset-class-level inflation hedge: We find that IPBs provided reasonable protection against inflation during this period…
2) IPBs in a deflation scenario: Nominal bonds had stronger protection (or put optionality) on deflation relative to IPBs during the last decade…
3) IPBs for portfolio diversification: The correlations of IPBs with other asset classes have been relatively low for equities, commodities, and real estate, and only slightly higher than correlations of nominal bonds with those assets.