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Inflation Erosion and Smart Hedging
Someone who invests in multiple asset classes such as stocks and bonds may be “hedging their bets.” Because stocks and bonds have tended to move in opposite directions over the past several decades, the gains of one can protect against the loss of the other, in theory. But hedging can come in many other forms. An investor can hedge against stocks, commodities, interest rates, currencies, and even the weather, all in an attempt to reduce risk exposure.
In times of high volatility and uncertainty, risk averse investors may move more of their investments into cash as a safe way to hold onto their assets in the event of a downturn. Yet in high inflation environments like the one the U.S. has been experiencing for the past several years, holding cash becomes a money loss strategy, not a money protection strategy. $500,000 in 2024 may be worth $515,000 in 2025 assuming a 3% inflation rate. Holding that much cash has the potential to effectively lose $15,000 in just one year.
Inflation erosion is one of several reasons why it may be more advantageous for an investor to move some of their cash into a hedging1 strategy instead. Hedging is a risk management strategy used to help offset the risk of price movements for an asset. It involves using one investment to counteract the risk of another.
Funds that focus on hedging aim to allow risk-averse investors to diversify their assets while still participating in the market. After all, future movements in the market are unknown. Betting on a downturn by moving into cash may result in losses far greater than those from mere inflation. The opportunity cost of holding cash instead of participating in the market can be significant over time.
One common form of hedging is to use options, which allow the investor to potentially gain from market swings in both directions. A put option gives the investor the right to sell their shares at a predetermined strike price2 in the future. If the value of their investments falls below that price, the goal of this structure would be to not experience the full loss. If they are wrong about the market and it experiences a big upswing, call options allow the investor to buy shares at a lower price than the going market rate if their value increases above the strike price.
TrueShares Quarterly Bull (QBUL) and Bear (QBER) Hedge ETFs can be utilized by risk-averse investors in times of high volatility. These ETFs invest in mostly short-term income-generating securities like treasury bills and use the interest to purchase call and put options. When the market swings above or below a certain threshold, say 5% in either direction, the fund seeks to gain positive returns. Instead of watching one’s cash depreciate, investors can hedge their bets for potential gains no matter the future of the market.
- https://www.investopedia.com/trading/hedging-beginners-guide/
- Strike Price: The strike price on an options contract is the price at which the underlying security can be either bought or sold when it's exercised. Source: https://www.investopedia.com/terms/s/strikeprice.asp
For full fund disclosures, please visit the QBUL and QBER pages.
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