Well, is gold really an inflation hedge?
Let us see.
But before that, what is inflation?
And how does this whole concept of Inflation work?
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| Is Gold Really an Inflation Hedge?: eAskme |
Let's look into it before we dig deeper.
What is an Inflation Hedge?
An inflation hedge is an investment considered to protect the decreased purchasing power of a currency that results from the loss of its value because of the rising prices.
It can be macro-economically or due to inflation.
It involves investing in a particular asset, which is expected to maintain or increase its value over a specific time.
Alternatively, this hedge could involve the cycle of taking up a higher position in assets that may decrease in value less rapidly than the value of the currency.
How does Inflation Hedge Work?
Inflation hedging can inevitably protect the value of a particular investment made.
Some investments might seem to provide a decent return, but when inflation is factored in, they can even be sold at a loss.
For instance, when you invest in a stock that gives you a 5% return, but the inflation is 6%, you lose that 1%.
Assets considered an inflation hedge could be self-fulfilling in these cases; investors flock to them, it keeps the value high though the intrinsic value may be lower.
If the dollar loses value from the effects of inflation, gold tends to become more expensive.
So in this case, the owner of the gold is protected or hedged from the inflation of the falling dollar.
As inflation rises and erodes the dollar's value, the cost of every ounce of gold in dollars rises as a result.
So the investor who invested in gold is compensated for the inflation with more dollars for each ounce of gold.
Why Gold is a Hedge Against Inflation
➔ Gold Can Help Guard Against the Decreased Buying Power of Money-
Gold does become a true powerhouse when the inflation rate begins to outpace interest rates in the market.
Inflation, in general, refers to an available spike in the prices for goods and services, like housing, food, fuel, transportation, and clothing, but an increase in the price of only a few things does not precisely have to be inflation.
Thus, in terms of gold and other assets, an inflation hedge can guard against a decreased buying power of money stemming from the broad jump in the price of goods and services.
Investors look at the actual interest rates in the gold markets by subtracting the benchmark rate from the inflation rate.
If an inflation rate goes up, then traditional inflation hedges like gold, commodities, real estate, and inflation-linked bonds will likely outperform other mainstream financial assets, gold standing out especially.
➔ Gold Offers Returns When Other Assets Cannot
From 1974 to 2008, there were only eight years when the US inflation was high, exceeding 5%.
In those years, gold prices jumped by an average of 14.9% year-over-year, outdistancing assets, more like bonds, equities, and other commodities.
However, gold was still posted mildly positive in 21 years of moderate inflation.
That is between 2% and 4.9%, and six years of low inflation, which was below 2% between 1974 and 2008.
Gold has stood out as a key portfolio component when identifying a long-term portfolio diversifier.
History brings down gold that has shown that it acts as an effective hedge and a valuable part of the larger picture.
Gold is a real asset with a credit or its default risks and is buoyed by high inflation compared to financial assets.
➔ Gold is Viewed as a Reserve Currency
As the US dollar continues to wane, gold may very well replace it.
There are several predictions for a surge in inflation through the influxes of stimulus funds pushing up prices, but gold stands still.
Against that backdrop, people are drenching the gold market with money as a hedge against inflation, or so said the wall street journal of 2020.
Gold is a monetary asset of choice, all real assets will benefit from higher inflation, but gold is more than a real asset.
Experts of the markets today even say that gold is termed to win in the battle of currencies.
Other than inflation, you could use gold for varied causes.
Good Reasons to Own Gold
It has Gone Down on History -
Unlike the paper currency, coins, and other assets, gold has maintained its value through all of these pages.
People look at gold as a way to preserve wealth from one generation to the next one.
From ancient times people have always valued the unique properties of this precious metal.
It does not corrode, and it does not melt over an ordinary flame.
The Weakness of the US Dollar -
Though the US dollar is one of the world's most important reserve currencies, the value of the dollar falls against other currencies, it prompts people to flock to the security of gold.
Deflation Protection -
Deflation is when prices drop tremendously, when business activity slows down, and the economy is burdened by excessive debt.
The relative purchase of gold in these times soared, while other prices dropped sharply.
Again, it is because people choose to hoard cash; the safest place to hold cash is in gold.
Increase of Demand -
The increasing wealth of emerging market economies boosted demand for gold.
In several countries, gold is intertwined with culture.
Like in China, gold bars are a traditional form of saving, and the demand for gold has always been steadfast.
Conclusion
Many would derive to say that gold prices only rose over the years.
But consider the alternative perspective; you now need more flat currency units to buy the same amount of gold out here.
It is not gold that has risen in price, but the currency has depreciated significantly over time.
Major economies of the planet are still locked into competitive currency devaluations, and their bid to spur in the economy or buying gold to protect wealth still prevails through this.
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