As inflation continues to hover at levels higher than many predicted moving into 2025, financial advisors face the challenge of protecting client portfolios while still capturing growth. The traditional toolbox for inflation protection—Treasury Inflation-Protected Securities (TIPS), commodities, and real estate investment trusts (REITs)—has shown limitations during the current inflationary cycle, prompting many advisors to seek more sustainable alternatives.
In an interview with The Wealth Advisor’s Scott Martin, James Davolos, Portfolio Manager at Horizon Kinetics, discussed how the firm’s Inflation Beneficiaries ETF (ticker: INFL) takes a fundamentally different approach to inflation protection by delivering an exchange-traded fund (ETF) that focuses on capital-light businesses that can flourish in various economic regimes rather than merely hedge against price increases.
The distinction between inflation hedges and inflation beneficiaries represents a crucial evolution in inflationary investment strategy. While traditional inflation hedges might preserve capital, they often fail to capture meaningful upside. INFL, launched about four years ago, has demonstrated its efficacy by generating double-digit annual returns while maintaining limited correlation to broader markets.
A New Approach to Inflation Protection
The conventional wisdom for inflation protection typically leads advisors toward commodity producers, REITs, and infrastructure investments. However, according to Davolos, many of these traditional options have fundamental business model flaws.
“For a lack of better words, if you look at traditional, real assets—whether it be natural resource producers, real estate, or infrastructure—they’re bad businesses,” Davolos says. “They have very low return on assets.” Investments such as apartment buildings, bridges, mines, and oil wells require substantial up-front investment with extended payback periods and intensive capital requirements, ultimately delivering subpar returns on assets.
While such businesses can generate durable cash flows once built, their valuations remain tethered to interest rates, creating a problematic dynamic in the current environment. Even if they can keep pace with inflation, Davolos argues, they’re unlikely to benefit from multiple expansion given their already robust valuations.
The result may be steady but unimpressive returns: “They’ll probably do fine—3%, 4%, 5%, maybe 6% a year—but I don’t think that’s what a lot of people are in equity markets to accomplish,” Davolos notes.
Financial advisors need to recognize the limitations that traditional inflation plays as part of a comprehensive strategy for navigating the next market cycle, which may feature persistently higher inflation than many currently anticipate.
Capital-Light Businesses: The INFL Advantage
INFL focuses on businesses with fundamentally different characteristics than traditional inflation hedges—companies that can expand margins and compound returns even in inflationary environments.
“Capital-light businesses have much higher margins, so higher return on assets, higher return on equity, very high operating margins, in some cases 30–50%,” Davolos states. These businesses can grow revenue without corresponding expense increases, allowing for wider profit margins while avoiding heavy reinvestment requirements.
The strategy specifically targets business segments that can benefit from inflation without the capital expenditure burdens of hard asset operators.
One such category is royalty companies. Davolos paints a clear picture of their advantage: Unlike owning mines, oil wells, or agricultural assets directly, royalty companies simply collect revenue based on production volume and commodity prices, with minimal operating costs, creating significant leverage to both increased output and rising prices. “Your revenue is a function of volume and price. So, more production, higher price, your revenue goes up, but you have virtually zero costs,” he says.
Financial exchanges represent another core holding type in the INFL strategy. Such marketplaces as the Intercontinental Exchange, Chicago Mercantile Exchange, and London Stock Exchange function as essential financial infrastructure that operates without proprietary capital risk. Compared to financial institutions such as banks or insurance companies, exchanges perform as pure toll booths collecting fees on financial activity.
Brokerages constitute a third category within the strategy—businesses that benefit from rising prices without directly operating in capital-intensive industries. While shipping, insurance, and commercial real estate represent challenging industries to invest in directly owing to their capital intensity, brokerages in these fields generate revenue based on volume and prices while paying agents fixed percentages, allowing most revenue increases to flow directly to the bottom line.
The common thread among these core holdings is high operating margins, strong free cash flow conversion, and compounding ability—attributes that position the INFL strategy for sustained performance through various economic cycles.
A Multiyear Inflation Outlook
The macroeconomic backdrop for INFL’s strategy appears increasingly supportive according to Davolos, who foresees a prolonged period of elevated inflation.
Davolos believes governments will ultimately pursue nominal growth strategies that incorporate inflation as a key component, as such approaches help manage deficit issues. He suggests that inflation levels of 3–5% may become the new normal, whether officially acknowledged by the Federal Reserve and Treasury or not. The higher-inflation environment could provide critical support for the fund’s strategy, as it creates the exact conditions where inflation beneficiaries can leverage their business models to outperform.
Davolos specifically warns about the dangers of underestimating inflation persistence. The potential mismatch between market expectations and likely outcomes creates both risks and opportunities for advisors and their clients. Horizon Kinetics forecasts CPI remaining at a level high enough to erode purchasing power meaningfully over time but potentially beneficial for specific business models represented in INFL.
Portfolio Implementation Considerations
For advisors considering INFL for client portfolios, Davolos suggests viewing the ETF through dual lenses: “My preferred way to look at it is a quality-adjusted version of a real asset portfolio,” he says. “I outlined the shortcomings of traditional real asset equities. This is a quality-compounding capital appreciation vehicle to own real assets.”
Additionally, the fund offers diversification benefits relative to major indices dominated by technology and other growth sectors. Davolos points out that major benchmarks such as the S&P 500 and other large-cap dominated indices are heavily weighted toward technology and AI-adjacent companies, offering little exposure to real assets—particularly the capital-light varieties that offer compelling compounding potential.
Regarding allocation sizing, Davolos believes that starting at approximately 5% might work for most portfolios while acknowledging that the appropriate exposure will vary significantly based on existing allocations. “Among the people we talk to, some have real asset exposure close to zero, some as high as 20%,” he says.
When considering whether INFL might serve as a fixed income replacement, Davolos emphasizes time horizon considerations. He cautions against using equity strategies such as INFL for short-term needs, under three to five years, as equity volatility makes such approaches unsuitable for near-term liquidity requirements.
However, for longer-term allocations, he sees merit in the comparison: “If you’re owning fixed income and you’re looking to basically clip a coupon for longer-term wealth accumulation, then absolutely, I think that it could be a good and wise complement.”
Looking Ahead
INFL potentially addresses a challenging problem for advisors: how to maintain purchasing power in portfolios without sacrificing growth potential. By focusing on capital-light businesses that benefit from inflation rather than merely hedging against it, the strategy offers a distinctive approach to navigating what may prove to be a fundamentally different investment landscape ahead.
“The next 10 years are going to be very different from the prior 10 years,” Davolos concludes. “It’s going to require different approaches to asset allocation, different approaches to sectors, different approaches to businesses.”
For financial advisors reevaluating their inflation-protection strategies, INFL presents a potential opportunity to move beyond traditional hedges toward businesses capable of sustainable growth even in a persistent inflationary environment.
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Additional Resources
- Contact Horizon Kinetics
- Royalties as an Asset Class
- Horizon Kinetics Inflation Beneficiaries ETF (INFL) Factsheet
- Horizon Kinetics INFL Overview
- INFL: An Active Approach to Inflation Risk
- INFL: Actively Managed Returns Through Market Regimes
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Disclosures
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Past performance is not a guarantee of future returns, and you may lose money. Opinions and estimates offered constitute our judgment as of the date made and are subject to change without notice. This information should not be used as a general guide to investing or as a source of any specific investment recommendations.
The Horizon Kinetics Inflation Beneficiaries ETF (Symbol: INFL) is an exchange-traded fund (“ETF”) managed by Horizon Kinetics Asset Management LLC (“HKAM”). HKAM is an investment adviser registered with the
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Investing involves risk, including the possible loss of principal. Shares of any ETF are bought and sold at market price (not NAV), may trade at a discount or premium to NAV and are not individually redeemed from the Fund. Brokerage commissions will reduce returns. The Fund’s investments in securities linked to real assets involve significant risks, including financial, operating, and competitive risks. Investments in securities linked to real assets expose the Fund to potentially adverse macroeconomic conditions, such as a rise in interest rates or a downturn in the economy in which the asset is located.
The Fund is non‐diversified, meaning it may concentrate its assets in fewer individual holdings than a diversified fund. Therefore, the Fund is more exposed to individual stock volatility than a diversified fund. The Fund invests in foreign securities which involve greater volatility and political, economic and currency risks and differences in accounting methods. These risks are greater for investments in emerging markets. The S&P 500 Index is a broad-based index intended to show the performance of the 500 largest companies listed on stock exchanges in the United States.
The Fund may invest in the securities of smaller and mid‐capitalization companies, which may be more volatile than funds that invest in larger, more established companies. The fund is actively managed and may be affected by the investment adviser’s security selections. Diversification does not assure a profit or protect against a loss in a declining market.
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