The risk of higher future inflation may be one of the most important risk factors for individual investors will face in the life of your investment. In the United States, inflation measured by the Consumer Price Index has averaged about 3% per year since 1926. However, the inflation rate has varied greatly over time, ranging from deflation (negative inflation) terms in the 1930's to double-digit inflation in the early parts of 1970.

The challenge for individual investors is how to prudently protect against unexpected inflation without excessive exposure to risk factors for many others who may face in building and protecting their wealth. This is a process of balancing several risk factors that may affect the expected return on a portfolio and uncertainty.

When thinking about the risk of inflation is important to recognize that current prices already reflect expectations of market participants of future inflation, given the available information. For example, when inflation expectations are high usually see high yields in the bond markets, while the opposite and times of low inflation expectations. This is new information that causes unexpected changes in inflation expectations, which quickly filtered through market prices. This is what investors want to drive.

For long-term investors, it is important hedge against inflation by having a total investment return that exceeds inflation over longer periods. Many consider the actions to be the most effective asset class to serve this purpose. The results vary depending on the time period and data sets used, but historically, stocks have generally exceeded inflation by several percentage points or more in the long term. Therefore, investors with a long-term horizon can be well served to maintain a good percentage of its investments in a diversified portfolio.

In the short term, however, stocks may offer negative returns relative to inflation. Choose to hold assets whose values tend to be highly correlated with inflation in the short term may help offset this risk. (Correlation refers to the co-movement of returns;. Which are highly correlated assets tend to move together)

One of the most effective asset classes in mitigating inflation risk is immediate short-term debt. Examples include money market funds, certificates of deposit, U.S. Treasury bills and notes, and short-term, high-quality corporate debt. These types of assets have lower expected returns than equities, so there is a balance between immediate protection from inflation and the potential long-term growth.

The long-term bonds can not be good for inflation hedging methods due to its high price volatility. Inflation can affect bondholders in the long term through market prices brought down by rising interest rates and through the erosion of the real value of interest payments and principal at maturity . In addition, certain asset classes like gold or oil is traditionally considered a good inflation hedge can not be. Many products have a much greater price volatility than inflation, which may reduce your benefits coverage, and their expectations for long-term profitability can only be roughly equal to inflation (unlike the people who have significantly higher returns expected inflation).