Basic Materials as a Hedge

 @ibtimes
on January 11 2010 7:28 AM

A fairly basic premise of investment is to avoid rising inflationary trends. Some might ask “what is inflation?”, or for that matter, “what is deflation?” The concept is a bit difficult to understand but one that any investor should work to understand. When there is too much money in the economic system, the amount of money needed to purchase a good or service rises as there is more money about to pay for that good or service. This is inflation. Unfortunately, one needs to work more to earn the same amount of money to make enough to pay for a good or service as the wage one makes stays unchanged.

Deflation works in the opposite direction. Too much debt can cause a situation where people aren’t spending any money. This, in turn, causes shop owners to reduce prices on goods and services causing deflation. This is not an easy balance to understand. It is, however, one that can lead to investment opportunity if one understands that there are certain investments that are not “generally” affected by inflation or deflation.

What is a “basic material?” A basic material is a product that holds value in its raw state. As investors, we may refer to gold or silver. Disregarding price/demand, as inflation or deflation rises or falls, the price of these “basic materials” stays the same in relation to the price of “money.” It may not seem that the price of the “basic materials” has gone up or down, but as the price of “money” changes, the price of the “basic material” actually stays the same in relation to the price of the “money” in question.

Generally, what this means is that when there is uncertainty in the investment marketplace, having a “basic material” in ones portfolio yields a certain amount of stability because as other investments sink or rise, the “basic materials” value remains stable in relation to the value of the “money” that is changing in price and value as the world economy changes and moves. One might say having “basic materials” in your possession is a safety valve for whatever may occur in a changing market.

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