Protecting Your Portfolio From Hyperinflation, Deflation, Confiscation, and Devastation

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The third book in the “Investing for Adults” series by William Bernstein is Deep Risk: How History Informs Portfolio Design. As before, I’m just trying to pull out a few practical takeaways rather than summarize the entire book. In Book 1: The Ages of the Investor, I learned to take advantage of a lucky streak in stocks and stop when I’ve won the game. In Book 2: Skating Where the Puck Was, I learned why it’s so hard to find any “new and improved” asset classes.

The main problem addressed in this book is “deep risk”, the permanent loss of real (inflation-adjusted) capital. This contrasts with “shallow risk”, in which the value of something usually rebounds within 5-7 years or less.

Here are some deep risks that you can offset by purchasing insurance (and be happy if you never have to use it!).

  • Death of income earner.
  • Long-term health disability.
  • Legal risk – lawsuit with large judgment.
  • Select types of asset loss (i.e. theft, building fire).

Unfortunately, there are other deep risks against which you can’t buy insurance.

  • Hyperinflation, prolonged and severe.
  • Deflation, prolonged and severe.
  • Confiscation by government.
  • Devastation (war).

Over an extended period of time, history has shown us that “safe” bonds are often more sensitive to deep risk than stocks. Many countries saw 100% losses for their bondholders, while partial ownership in a business survived wars and regime changes. An example given was in Germany after World War II. Bonds are also at risk for inflation, while a 30-year fixed-rate mortgage (a negative bond) can be a great inflation hedge.

A portfolio of internationally-diversified stocks is the most practical way to protect yourself from both inflation and deflation. Historically, inflation is much more likely than deflation. You might have an event in one country, but it would be very rare to have a large majority of nations experience severe inflation and low stock returns all at the same time. In such a case you’d be looking at global devastation.

As for local confiscation and local devastation, you would be looking at foreign-held assets, foreign property, perhaps the right passports, and a plan to escape in a timely manner. This sounds like something that a billionaire might pay someone else to set up, but not so sure how practical it would be for most people.

Bernstein offers his own summary:

This booklet’s primary advice regarding risky assets is loud and clear: your best long-term defense against deep risk is a globally value-tilted diversified equity portfolio, perhaps spiced up with a small amount of precious metals equity and natural resource producers, TIPS, and, if to your taste, bullion and foreign real estate.

I admit that I am somewhat fascinated by worst-case scenarios, and I recommend reading the entire book for the full discussion. But in the end, my primary takeaway is that if you have a globally-diversified stock portfolio, you’ve done most of what you can in terms of deep risk. The rest is the same advice as before: consider TIPS if you have enough money, maximize Social Security, and keep some nice safe bonds and bank CDs for short-term needs (shallow risk).

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  1. Read the book years ago and wrote a review:
    I am a top reviewer.

    • Schullo, I’ve just read your Amazon review. You put a lot of work into it, and thanks.

      But you don’t convince me, as with “Horseman #1: Americans over 45 years old lived through “hyperinflation” (relative to our current rate) through the 1970s.” No, that wasn’t hyperinflation. Hyperinflation is when we take wheelbarrows of money to the supermarket. You quote Paul Volker as saying “it couldn’t happen here.” What’s that joke about economists? “What happens when you put 10 economists in a room? You’ll get 11 opinions.”

      I’m also unimpressed with your losing over $300,000 in the dot com crash, and then giving us financial advice. I made money in that crash, and still think of myself as an amateur.

      I was hoping your book review would generate discussion, but not a single comment. Guess this is one.

      Best wishes.

      • Hi Steve,
        Thank you for your comments. I love to be corrected and criticized. At my age, I have no ego any longer thank goodness, what a drag it has been through my life. :- )
        I got two comments, both said the same as you that I put a lot of work into it.

        Yeah, I stand corrected about hyperinflation in the 1970s. It was not hyperinflation as you said. I agree. But again, if the risk of hyperinflication is real, what can we do about it that is long term and is part of our plan design? Goes back to my point is that we are all doomed. Bernsteins book is about how does history informs plan design. I got nothing from that. I will never use any of the armaghedon portfolios such as Permanet Portfolio, or hord gold. I believe in all of the hard working people working in our publically traded companies throughout the world.

        I never give financial advice. I only share my experieces, my mistakes, (and very modest successes) and share my boring portfolio to anybody who wants an example for a retiree.

        Good for you making money in the tech crash. My hat is off to those that do things that I would NEVER do. Seems like I only hear the success stories like yours. I share my mistakes. In my life, I made lots of mistakes and my hat is off to those that hardly make mistakes.

        I heard that quote too about economists. Volker was talking about emotions, and sophisticated people are indifferent to the emotional side as financies is all about math, models, and equations. But thats not what Ben Graham thought. So, I also have a quote from Ben Graham. His first two sentences in his now historic bible, The Intelligent Investor, he wrote about what we call emotions or psychology today: “The purpose of this book is to supply, in a form sutiable for the laymen, guidance in the adoption and execution of an investment policy. Comparatively little will be said here about the techniue of analyzing securities; attention will be paid chiefly to investment principles and investors’ attitudes”. Imagine that, ATTITUDES! I think thats what Volker was referring too, but you are right, the 1970s was not hyperinflation.
        But my review of Bernstein’s book points out that what he is writing about is that there is nothing we can do. There is nothing we can do if another asteroid hits us as what happened to the dinosaurs, but things like that happend once every 50 to 100 million years or so. Do we have that big of an ego to think something like that which is so rare will happen to us during our lifetimes? Seriously? If it does, no plan design is going to protect us. If you have one, my hat is off to you again.

        The financial world is basically about emotions. Sir Isaac Newton said: “I can calculate the motion of heavenly bodies, but not the madness of people.” Nothing wrong with emotions, I think it does more to protect our assets than Bernsteins book. BTW I love Bill as he reviewed my book years ago! Sorry Bill! But he is a big boy and can take what I say as I am a nobody in the financial world, just an ordinary investor who learned a thing or two about life, emotions and finances, and watching my “attitude.”

        Thanks again,

  2. I’m a fan of Mr Bernstein but haven’t done much investing reading in recent years. (Set it and forget it.) Thanks for bringing these three books to our attention.
    The only thing that keeps me up at night is how America is going to pay off the national debt. I doubt we’ll ever even try.
    But if we do, then Inflation is the only way possible. We could cut benefits/expenditures: riots in the streets. Or raise taxes: get voted out of office. No, paying the debt with inflated dollars is best: hurts no one but savers and there’s not as many of us as there are debtors.
    As a start, am going to put some of my money into a Total International stock fund and a TIPS fund.
    Thanks much. You do good work, Jonathan.

    • Why would you think we would actually pay off the debt?
      We haven’t done that for literally 2 centuries.
      Paying off the debt in full isn’t even close to feasible a goal at this point. It could take decades to get to the point that actually paying off the debt is even part of the discussion. We aren’t even even going in the right direction much less talking about getting there. Congress can barely agree that the Pope is Catholic much less fix the debt and pay it off in full.

      • “Why would you think we would actually pay off the debt?”

        Until a decade ago, maybe two, it seemed possible, didn’t it. Then 1) President Bush greatly expanded Medicare, 2) we fought the wars in Iraq and Afghanistan without funding them through increased taxes, and 3) the Covid-19 government support to individuals and companies was the nail in the coffin.

        Which makes me, an ordinary citizen, wonder: how does this work?

        Don’t debts have to be repaid? Mine do, why not our government’s?

        We’re not Argentina. The dollar is the world’s currency. What happens when it has no value? In fact, why does it continue to have value?

        I am not asking abstract questions. I see China’s engineering and technical prowess, and fear one day the bill will come due.

  3. Jonathan,

    I know it is taboo to talk about bitcoin in the US personal finance community. As an immigrant who experienced sectarian violence; I am a firm believer in having assets outside of government control and not subject to confiscation.

    Feel free to check out my post where I go into detail

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