Five Ways to Keep Inflation at Bay

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If rates fall, the securities you already own become more valuable.

Investors typically create a ladder over a 5- or 10-year time frame, with a portion of them maturing once each year. Besides hedging inflation risks, ladders can also be helpful for parents planning for a child's college education—buying bonds that mature during a future four-year period as a source of cash to pay tuition, Brandes said.

4. Commodity-based Stocks and Funds

Investors can also hedge inflation by betting on stocks of companies that hold reserves of commodities whose prices you believe will continue to rise.

"By owning these companies, you own their reserves of raw materials," Jay Hutchins, president of Comprehensive Planning Associates in Lebanon, N.H., told BusinessWeek.com via an e-mail message.

Sustained spikes in oil prices provide a rationale for owning shares of large oil companies like Exxon Mobil (XOM), for example. Other good bets: companies that handle materials like copper or stainless steel. Stainless steel has been in heavy demand in ethanol plants due to how corrosive ethanol is, according to Tannenbaum at LaSalle Bank.

Farm commodities are somewhat harder to play, but one can benefit indirectly from the price hikes in agricultural products by investing in companies such as Deere (DE) and Caterpillar (CAT) that manufacture farm equipment. These stocks are benefiting not only from higher crop prices, but also from increasing machinery sales internationally, says Tannenbaum.

Commodity-based stocks are also available through mutual funds and ETFs. The Vanguard Materials ETF (VAW) is one that Hutchins recommends using in tandem with iShares' Lehman TIPS Bond Fund and the PIMCO Floating Rate Bonds Fund (PFL), as increases in inflation, interest rates, and commodity prices aren't always in sync with each other.

The Vanguard Materials ETF is comprised of companies of various sizes and tries to track the MSCI U.S. Investable Market Materials Index. At the end of March, the fund's top 10 holdings included Dow Chemical (DOW), Alcoa (AA), Monsanto (MON), and Freeport-McMoRan Copper & Gold (FCX), giving investors exposure to the rising prices of commodity chemicals, aluminum, corn, and copper, respectively. The Materials ETF's market price is up 18.55% since inception in January, 2004.

5. Closed-end Funds

There are also several closed-end funds whose primary objective is to maximize income and capital appreciation over time. Nuveen Investments' (JNC) closed-end funds aren't designed to hedge against inflation, but they end up fulfilling that function by providing superior distributions over time, according to Anne Kritzmire, managing director of closed-end fund product development at Nuveen.

One product is the Nuveen Tax-Advantaged Total Return Strategy Fund (JTA), which blends a strong equity strategy with a corporate bond strategy. Multi-cap value stocks comprise 80% of the fund's holdings, while the other 20% is senior floating-rate corporate loans, which typically aren't available to retail investors.

Kritzmire notes that corporate paper performs especially well in a rising-interest rate environment. Nuveen launched the fund at the end of 2003 in response to the law that reduced tax rates on dividends, focusing on capital appreciation instead.

With $403.2 million in total assets at the end of March, the fund currently trades above $27 per unit, compared with $20 when it was introduced in January, 2004.

Bogoslaw is a reporter for BusinessWeek's Investing channel.