Inflation Out of Control- Three Ways to Protect Yourself

By: Money_and_Markets

Mike Larson writes: I hate to be the one to yell "FIRE" in a crowded theatre. But the time for keeping quiet has long since passed. The time for ignoring the gathering clouds of smoke is over. It's time to sit up, pay attention, and get your portfolio the heck out of harm's way ... because we have a full-scale, five-alarm, inflationary wildfire on our hands.

Allow me to walk you through the overwhelming, undeniable evidence ...

Import prices are soaring at an astronomical rate

The government's policy of ignoring the dollar's decline is leading to astronomical increases in the cost of imported goods. In the month of May alone, import costs jumped 2.3%. That came on the heels of a 2.4% rise in April and a 3% increase in March.

But the year-over-year comparisons are even more astounding. Import prices surged a whopping 17.8% in May from the same month in 2007. That's the biggest rise the government has ever recorded, and it's been tracking the numbers for a quarter century. Obviously, oil is a major factor — petroleum import costs soared by 69%. But even excluding petroleum products, import prices are on the rise ... and not by a small amount.

As the cost of imported goods from China steadily climbs, U.S. consumers are paying higher prices in big-box retail stores.

Another major red flag: The cost of importing goods from China is on the upswing. Chinese imports climbed 0.6% in price last month. That pushed the annual gain to 4.6%, the most since the government began tracking such figures back in 2003. As all those Chinese goods on the shelves of Wal-Mart, Sears, and Target get more expensive, U.S. inflation pressures are going to keep on climbing.

Speaking of which ...

Wholesale inflation is growing by leaps and bounds

Every month, we get new data on producer prices. These figures measure inflation at the wholesale, rather than retail, level. And I'm not going to mince words — the latest data stinks to high heaven ...

The Producer Price Index (PPI) surged 1.4% in May alone. That was seven times the increase we saw a month earlier, and a greater gain than the 1% rise economists expected. Wholesale inflation is now running at a 7.2% year-over-year rate, just shy of a multi-decade high.

What about the Fed's beloved "core" inflation readings — the ones that exclude food and energy? Only ivory tower economists and out-of-touch policymakers seem to focus on these figures (which were designed to be used to weed out the impact of one-off surges in certain prices due to regional droughts, hurricane strikes, and other short-term events NOT as a mechanism for ignoring long-term trends). But even if you accept the argument that we should focus on core inflation, the news is bad. The core PPI is now rising at a 3% year-over-year rate, the fastest going all the way back to 1991.

Still not convinced we're in serious trouble? Then consider this: Goods at the "intermediate" stage of production (rather than the "finished" goods the main PPI tracks) are up 12.6% in price from a year ago. Crude goods are up an eye-popping 41.5%. Those are the worst readings going back to 1980 and 2003, respectively! As a result ...

Consumer inflation is marching higher — at home and abroad

But here's the kicker: For the past several quarters, we've been forced to listen to the same tired argument from the so-called experts on Wall Street:

"Since the job market isn't growing quickly, consumers have no bargaining power. They can't demand higher wages. Ergo, the increases in "pipeline" inflation don't matter because we can't have a 1970s-style inflationary spiral."

With surging gas and food prices walloping consumers, the effects of inflation are rapidly exasperating the U.S. mortgage crisis.

Yet month-after-month, quarter-after-quarter, inflation rates have generally climbed. The Consumer Price Index (CPI) jumped 0.6% in May alone, a greater gain than was forecast. The increase was enough to push the year-over-year inflation rate to 4.2%. That's one of the highest CPI readings since the early 1990s. And I don't know about you, but I think it's easy to make a case that REAL inflation — the kind we're experiencing in our everyday lives — is much higher than 4%-and-change.

In other words, the "see no inflation" crowd has been dead wrong. They kept saying not to worry ... even as the numbers kept getting worse.

Moreover, inflation isn't just a huge threat here in the U.S. It's rising around the world ...

• U.K. consumer inflation spiked 3.3% last month, an 11-year high .
  
• Inflation in the 15-nation Eurozone region is up to 3.7%, a 16-year high.
  
• Australian prices jumped at a 4.4% rate in the first quarter, the most in almost 17 years.
  
• Chinese inflation hit a 12-year high of 8.5% in April.

The list goes on and on. But in the end, here's ...

What has to happen, like it or not

Last week, as I recounted in Money and Markets , we got the first hint that timid U.S. policymakers were finally getting a clue. They signaled they would do what it takes to tamp down inflation expectations and support the dollar. But in the ensuing days, the Fed appeared to leak to a few select news organizations that it's NOT that eager to raise rates after all.

What is wrong with these people? With inflationary blazes breaking out everywhere, Fed policymakers shouldn't be sitting around the firehouse playing cards. They should get into their helicopters and drop buckets of water on the flames! Or in plain English, they should start hiking rates immediately, and then continue to raise them until they get inflation back under control.

And what about all those apologists who are whining about the impact rate hikes will have on the economy? They should read their history books. Once inflation starts raging, stalling for time is the WORST thing you can do. It only results in you having to raise rates even higher — risking an even DEEPER economic slump — down the road. Better to put the fire out now, take your lumps, and leave the economy in better long-term shape.

As far as your portfolio is concerned, the kind of inflation we're experiencing right now can be a real killer. It erodes the value of long-term bonds. It drives up interest rates. It guts the purchasing power of your savings. And if you're in the wrong investments, it can destroy your nest egg.

As inflation spirals out of control, here are ...

The Three Best Ways to Protect Yourself

First, switch your money out of long-term bonds and into short-term Treasuries.

Second, take a hard look at higher-yielding stocks that can help you stay ahead of inflation. They include master limited partnerships, select foreign shares, and utilities.

Third, consider allocating some money to hard assets and commodities.

Ready to take on more risk in search of higher returns? Then you can consider buying select put options or inverse Exchange Traded Funds (ETFs) that target stocks vulnerable to rising inflation and interest rates. Financials and housing stocks are key examples of sectors that have gotten walloped in recent weeks.

Bottom line: Don't ignore inflation like those wishful Washington politicians. I urge you to take steps to protect yourself — before the flames get to your portfolio's doorstep!

Until next time,

Mike

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