By Ian Salisbury

Inflation is proving stubborn. It means investors may want to start thinking about which stocks and bonds hold up best amid rising prices.

While inflation isn't nearly as bad as a few years ago, it remains elevated. On Friday, the Federal Reserve's preferred inflation gauge, the core personal consumption index, registered 2.9% for July. While that matched economists forecasts, its well above the Fed's long-term target of 2%.

Despite the persistent price growth, the Federal Reserve is widely expected to cut the benchmark federal-funds rate following its next meeting in September, a move that comes in response to signs of a soft jobs market, and perhaps political pressure from President Donald Trump.

Lower rates come with the risk of further stoking inflation -- and beg the question, which stocks and bonds can best protect investors?

It's worth noting that in the long run, broad stock market investments like index funds provide excellent inflation protection, since companies eventually find ways to pass higher prices on to customers, and corporate profits adjust.

In the short term, however, inflation can lead to major dislocations. The sectors that hold up best tend to be ones where stock prices are closely tied to asset prices that drive inflation in the first place, according to a recent study by Hartford Funds. Historically the biggest winners have been energy and many real estate investment trusts.

"The revenues of energy stocks are naturally tied to energy prices, a key component of inflation indices. So by definition, they generally have performed well when inflation rises," wrote Hartford researcher Duncan Lamont. "Equity REITs...may also help mitigate the impact of rising inflation."

Both sectors offer investments with hefty yields that could cushion the impact of rising prices, particularly for investors looking for income. The $11 billion Alerian MLP ETF, which tracks energy master limited partnerships, boasts a yield of 7.8%. The $64 billion Vanguard Real Estate ETF, which mostly owns equity REITs, has an annual payout of 3.9%.

Inflation can be a killer for bonds, since it reduces purchasing power of bonds' coupon payments. However, bond investors are in much better shape now than when inflation spiked in 2022. Today, 10-year Treasury notes yield about 4.2%, compared with about 1.5% at the start of 2022.

Today's higher yields mean bonds throw off much more income, so while rising prices may eat into bondholders' spending power, they won't have the same bite. What's more, despite inflation risks, the Federal Reserve is talking about cutting interest rates, not raising them -- a move that could boost bond prices, which move in the opposite direction to rates.

Still investors who are worried about inflation can check out Treasury inflation-protected securities, a class of government bond that adjusts principal amounts in line with inflation. The bonds aren't fool-proof. They can still post losses if interest rates jump, as they did in 2022, but they provide investors with an extra measure of protection.

Currently 10-year TIPS yield 1.8%. But, since TIPS adjust their principal amounts with inflation, that yield is after inflation. Given that standard 10-year Treasury notes yield 4.2%, the TIPS yield imply investors are betting on an average inflation rate of about 2.4% over the next decade. If inflation ends up being higher, TIPS investors will come out ahead.

Investors who are simply looking for higher yields to blunt the impact of rising prices, can also look at junk bonds. The iShares iBoxx $ High Yield Corporate Bond ETF yields 5.8% compared with 4.4% for a sister fund tracking investment grade bonds. But investors need to tread carefully. High-yields bonds, like stocks, tend to be very sensitive to economic conditions.

If rising prices start to take a toll across the economy, junk bond investors could face losses. Lately, investors haven't been getting paid much to take on that extra risk. Junk bond spreads, the extra yield junk bond investors earn relative to the broad bond market, have been at their lowest levels since before the 2007-2008 financial crisis.

Write to Ian Salisbury at ian.salisbury@barrons.com

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August 29, 2025 15:34 ET (19:34 GMT)

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