5 Best Ways To Hedge Against Inflation
Watsala Shakya
Inflation generally tends to rise with time, it is supposed to. Moderate rises in inflation reflects sound economic health. This is because as an economy grows, the demand for commodities increases, and which directly translates to a rise in demand for production of various commodities, which means the demand for its factors of production (such as labor, materials, fuel, etc.) increases. This also means that the growth in the market will tend to create opportunities for investments. As the foundational principle of economics states, as demand increases, prices will follow. The increase in prices of commodities and all the commodities when taken as a ‘basket of goods’ tends to push the price level of the economy, which we know as inflation.
The moderately higher prices tend to favor economy, suppliers try to create more varieties of commodities for consumers to enjoy, and in the process corporations and businesses would want to buy and invest in those commodities. As a result, workers benefit. This economic growth drives an increase in demand for labor, and as a result, wages generally increase. With this, the workers are able to consume more with the increase in their purchasing parity. They can further inject money into the economy, hence creating a phenomenon economics calls, a “virtuous” cycle. To sum all that has been mentioned so far, inflation is not really the cause for all this, it is merely the symptom of a healthy, growing economy.
Inflation rates tread on a thin line that balances it from extremities, low inflation and high inflation are bad for the economy. To begin with, low inflation reflect poor economic health. When the demand of commodities are less, it signals low inflation, as it triggers a cycle known to us as a ‘vicious’ cycle. In this cycle, economic growth is sluggish as low demand means producers have to produce below effect, in other words they have to operate at a breakeven point, or even worse, at a loss. A great example of this phenomenon is the Great Recession that left millions unemployed and unable to consume and demand commodities.
Inflation can also rise to unimaginable heights. People and the economies are left unable to consume commodities as they are too expensive. Generally, this occurs when demand is far greater than supply. When the demand for commodities rise rapidly, the price of commodities follow, however, the income of people may not rise in the same manner. This would render the people of an economy to not be able to purchase commodities. Great examples of high inflation is the case of Zimbabwe and Venezuela, when the inflations rates soared close to the sky due to which their national currencies could no longer purchase even a cup of tea.
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Here are 5 ways you can hedge against inflation:
1. Invest in Real Estate
Real estate investments are generally great investments, but at times of inflation they stand to be one of the best investments to hedge against inflation. When inflation occurs, income from real estate property also increases. This is because as inflation rises real estate owners can increase rent, and by doing so the income of real estate owner increases even in the times of inflation. Also in the course of owning a house or real estate, investors will have the opportunity and potential; of increasing its value over time. All-in-all, it is a very lucrative market in which the value of the asset usually only ever appreciates.
2. Invest in Stocks
Investments in equity is an effective method to hedge against inflation. The main reason for this is, as the stock market tends to leave behind inflation. For long periods of time, stock markets can be ahead of inflation, however, there’s a catch. If inflation spikes up rapidly, the stock market may tremble for a short time. This does seem much better when comparing the effects of inflation on businesses, companies, production houses, and many others. This being said, the question arises, “If businesses and companies suffer from inflation, how their stocks will remain unscathed?” For this, you can act in defense. You can invest in companies that are more likely to survive inflation fluctuations. The companies that fall under this category are the ones that sell, produce or distribute basic necessities.
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3. Diversify Investments Internationally
Diversifying one’s investment portfolio has always advised by experts, in the same way, it is best to invest in different economies to hedge against inflation. Among the many economies in the world, not all economies experience the same economic issues such as inflation at the same time. Also, some economies are more stable than others. Among them are economic giants like Italy, U.S.A., South Korea, Australia, etc. By adding the stocks of these economies into your investment portfolio helps investors diversity their portfolio, while it also helps you hedge against inflation in your domestic economic cycle. Investing in foreign bonds provide investors the opportunity and exposure to earn a fixed income that may not fluctuate in price when inflation skyrockets in your domestic economy.
Also Read: Diversification In Investing: Why It Is Important?
4. Invest in Cryptocurrency
Holding cash when it’s value declines rapidly is a challenge. For times when inflation rates skyrockets, it would be best to hold on to decentralized money such as Bitcoin, Ethereum, among others. They are strong inflation hedges like precious metals and real estate. Digital assets such as cryptocurrency act as assets that investors can lean upon when money loses its value fast. The only catch in using this method to hedge against inflation is that cryptocurrencies are not widely accepted around the world, some governments such as our Nepalese government remain hostile regarding cryptocurrencies and have even went on to ban them.
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5. Invest in Precious Metals
Investments in gold and other precious metals have been a traditional method to hedge against inflation and times of economic distort. The value of gold and precious metals only rise, they are appreciating asset, which makes them perfect investment assets. These metals tend to hold their intrinsic values, which makes them capable of acting as alternative money when actual money (cash) losses values. Many currencies around the globe are backed up by gold, which is to say, economies uses gold to give value to their money or currency. In the same manner, individuals can us gold and other precious metals to back up their money.
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